DB FX Daily: London FX and stocks

[RTFX-Trading]

FX Daily: London
FX and stocks
Today's Key Data and Events
NOK Trade balance for June, 26.1bn expected (08:00 GMT)
EUR HICP final for June, 0.1% mom expected (09:00 GMT)
USD NY Fed Empire State survey for July, 18.0 expected (12:30 GMT)
JPY Tertiary activity index for May, 0.2% mom expected (23:50 GMT)

Upcoming Event Risks
July 18 Bernanke's H-H testimony
July 25 Australian Q2 CPI
July 26 RBNZ rate decision

FX and stocks - don't count on a booming equity market to rescue the USD
Our first chart below shows the 20- and 200-day correlations between the S&P 500 and various currencies. A few aspects of these correlations are of interest in our view. The first is the divergence between the 200- and 20-day correlations between USD/JPY and the S&P - with USD/JPY having moved lower over the past week despite US equities making new highs. The other point of interest is the negative correlation between the S&P 500 and the US dollar index (DXY). Both the 20- and 200-day correlations between stocks and the dollar index are negative, a result that may initially seem counter intuitive. Digging a little deeper the explanation for this result is likely to be found in the relationship between EUR/USD and stocks (given that the EUR has an almost 60% weight in the DXY). As the chart below shows, the 200-day correlation between EUR/USD and the S&P 500 is 0.81. If we plot the S&P 500 against EUR/USD (second chart) we can also see that over the past year both EUR/USD and the S&P have trended higher together. The chart also shows that the relationship is not particularly stable over the longer term, so we would be inclined to view this as correlation and not causation. The clear conclusion we can draw, however, is that equity market strength presents no barrier for USD weakness given the ability of EUR/USD to consistently rally despite a strong US equity market.

Event risk over the week will focus on inflation and central banks
The coming week contains a number of significant risk events including: Bernanke's semi-annual testimony (starting Wednesday); the US CPI (also Wednesday, although this is of more importance for the debt market than the FX market); the Canadian CPI due Wednesday (a source of significant event risk for USD/CAD); and a range of key data in the UK (including the CPI Tuesday and the BoE minutes on Wednesday). This data and event flow comes against the backdrop of GBP, the Canadian dollar and EUR/USD all either at or near their highs.