In This Issue.

*  Dollar drops the most in a year…
*  German data hurts the euro…
*  Both RBA and BOJ hold policy steady…
*  Gold holds on to $1,200 but barely…

And Now. Today's A Pfennig For Your Thoughts.

The Dollar drops the most in over a year…

Good Day!  Chuck took a quick trip down to Florida this morning so I'll be bringing you the Pfennig today while he hopefully makes it out between this morning's thunderstorms.  The rain was really coming down on my drive in this morning, and I just hope it doesn't stay around to delay the start of Game 4 downtown at Busch Stadium.  I was down there last night and got to see the Cardinals take a 2-1 lead in the best of 5 division series.  A late night has me dragging a bit this morning, but there is a lot to talk about this morning so this Pfennig will hopefully pretty much write itself.

The dollar rally reversed course in the first trading day of the week as it closed out with the largest drop in over a year.  Brazil's real climbed the most in three years on the surprising election results and the Japanese yen strengthened following the Bank of Japan's meeting.  South Africa's rand climbed along with most of the other commodity currencies in what became a very good day for currency investors.  The sentiment had done a 180 degree turn from last weeks dollar rally, but I question just how much stamina this little currency rally will have as most analysts believe the dollar's drop was simply due to some profit taking as we have a lack of any data releases here in the US.

Speaking of a lack of data releases, Chuck sent me a note before leaving yesterday afternoon and asked me to share it with readers this morning, so here it is:

So, there I was yesterday morning, at 9 am looking forward to seeing the new LMCI, you know the report compiled by the Fed so they can track the labor markets better, that we talked about yesterday. Then it was 10 am and still no print of the report. What were the printing presses broken? Was there more “adjusting” that had to be done? Beats me. All I know is that it was supposed to be ready at 9 am. and it wasn't!  Don't tell me the Fed members are having second thoughts about releasing this labor report?  So, I began to do some research to see if I could find out why the Fed members might not want to print this report.  and I came across a story on  that about says it all. Let's listen in.

“Unfortunately, we find that the LCMI has a low correlation with both the labor force participation rate and with wages, two key areas of concern for the Federal Reserve. On a 12-month period, the LMCI only had a 0.36 correlation with the labor force participation rate and a 0.38 correlation with average hourly earnings.  The big worry for Matus, and other more hawkish Fed watchers, is that the Yellen-Fed will misinterpret the labor market signals and maintain loose monetary policy for much longer than the economy needs.”

Chuck again. And that won't be what the doctor ordered for a recovering dollar! But all that remains to be seen, as the report still wasn't ready for prime time, by the time I left for home yesterday. Watching and waiting, for a friend to play with, why have I been alone so long?…- Moody Blues.  Now back to Chris.

I can report that the LMCI was in fact released sometime yesterday afternoon or perhaps overnight (I can't tell from the report just when it was released).  The index was rose 2.5 points in September after increasing 2 points in the previous month.  Unfortunately it is a bit hard to say what these increases mean, as we don't have much in the way of context.   Not much in the way of data releases here in the US this morning, and the data cupboard remains fairly empty until tomorrow afternoon when we will get the release of the minutes from the September FOMC meeting.  These minutes will be scrutinized for any indication of when rates will begin to rise.  

Data out of Europe this morning caused the euro to give back all of the gains it had booked yesterday.  The single currency came under some pressure in early trading after German data showed a 4 percent MOM drop in industrial output, far below the consensus forecast.  This was the largest drop in industrial production since January 2009 and gave more credence to those who have been predicting trouble for Europe's growth engine.  The data emboldened those who expect further monetary stimulus from the ECB, perhaps full blown QE following the smaller asset buying which was announced following the last ECB meeting.  As Chuck has suggested, any sovereign bond buying which would be involved in an expanded Quantitative Easing by the ECB would face stiff opposition from the Bundesbank, and would likely be challenged in the European courts.  But the data does reflect the fact that Europe's recovery is lagging the pace of recovery in the UK and US, which will likely keep the euro under selling pressure.

Inflation data released in Switzerland this morning added to worries about the Eurozone slipping into a deflationary spiral.  Swiss consumer prices fell for the first time in seven months in September, dragged down by a drop in the cost of imports and lower oil prices.  Consumer prices fell .1% from a year ago, the first negative reading since February. 

Both the Bank of Japan and Reserve Bank of Australia ended their meetings overnight with neither adjusting their existing monetary policies.  The RBA kept interest rates at record lows for the 13th straight policy meeting on Tuesday, pointing to an economy which is still not firing on 'all cylinders'.  “Overall, the Bank still expects growth to be a little below trend for the next several quarters,” said RBA Governor Glenn Stevens.  “On present indications, the most prudent course is likely to be a period of stability in interest rates.”  The Australian dollar sagged a bit after the RBA said the currency remains high by historical standards.  ” The exchange rate has declined recently, in large part reflecting the strengthening US dollar, but remains high by historical standards,” said Stevens.  As Chuck wrote last week, currency traders have been stepping out of the way and allowing central banks to 'jawbone' their currencies lower.  But the Aussie dollar has recovered from its post meeting low and is moving slightly higher this morning. 

The rally in the AUD crossed the Tasman Sea and helped boost the kiwi over 1 percent vs the US$ yesterday.  The New Zealand dollar bounced off of the 14 month low of .7715 it hit last week and has pushed back over .7820 this morning.  The kiwi rallied in spite of a poll which showed a slide in NZD business sentiment to a two-year low during the third quarter.  

Bank of Japan Governor Haruhiko Kuroda joined Stevens in sending warning messages to the markets regarding the stalled economic recovery.  The BOJ pledged to maintain their massive stimulus efforts for a prolonged period as they confirmed signs that the Japanese economy is probably slipping into a mild recession.  Kuroda also joined with Stevens in his call for a weaker currency, stating that a weak yen is a positive for Japan's economy.  “If the currency moves reflect economic and financial fundamentals, they should be positive, not negative, for the economy.  But these fundamentals themselves fluctuate, so it's important to take this into account,” Kuroda said in an interview overnight.  Data released today showed economic conditions in Japan worsened in August, slowing down further following the tax hike which took place earlier this year. 

Listening to these two central bank leaders, it is obvious to me that the 'currency wars' are still alive – as central banks attempt to devalue their currencies in an attempt to boost exports and growth in their own countries at the expense of others. 

Two of the most volatile currencies of the year moved higher yesterday as both the Brazilian real and South African rand booked nice gains vs. the US$.  The South African rand gained over 1 percent vs. the greenback on Monday as the rand rode the wave of currency rallies as the US dollar dropped.  Investors were also emboldened by the appointment of a new reserve bank Governor, Lesetja Kganyago who will hopefully bring some stability to the policies of the South African central bank.  The Brazilian real rallied on the back of the surprisingly strong showing of Aecio Neves of the centrist Brazilian Social Democracy Party who is seen as a pro business candidate.  Most polls had Neves in a distant third place as late as last week, and the expectations of the markets were for a run-off election between current President Dilma Rousseff and challenger Marina Silva.  But a unexpected surge by Neves during the final week of the campaign pushed Silva down to third place and set up the runoff between Neves who garnered 33.6% of the first round votes and Rousseff who got 41.6% of the votes.  The surprising surge of support for Neves has investors believing Rousseff may be forced to take a more 'pro-business' stance which would lead to better support for the Brazilian currency.   The real will continue to be at the mercy of the latest polls as we work our way toward the second-round runoff on October 26th. 

Gold held on to the $1,200 handle overnight, after recovering from the low of $1,183.46 it hit on Monday.  Yesterday's price was the lowest level for gold since June of last year as investors worry about the possibility of higher rates here in the US.  The strong rally in the dollar has put additional pressure on gold, which typically trades counter to the US currency.  Unfortunately any signs that the US recovery is on track will probably lead to additional selling pressure on the precious metals as investors increase bets that the FOMC will raise rates earlier than previously thought.  But I still think Chairman Yellen's dovish nature will win out in the negotiations inside the FOMC, and that rates will likely remain low for an 'extended period' lasting well into 2015 which could reverse the recent slide.  A return of the Chinese buyers tomorrow could also lead to a short term rally as both China and India have had extended holidays which kept these important precious metals investors from the markets. 

To recap, the dollar's rally was reversed on Monday with several currencies booking over a 1% gain vs. the US$.  The lack of any US data led many to believe this reversal was due to profit taking, and not a sign of a trend reversal.  The BOJ and RBA both kept policy steady, and continued to try and 'jawbone' their currencies lower in what can only be called a continued 'currency war'.  Both the BRL and ZAR booked nice gains vs. the US$ but these currencies will continue to be volatile so buyers beware! And gold clawed its way back above $1,200 as the dollar lost ground.

Currencies today 10/7/14.American Style: A$ .8775, kiwi .7807, C$ .8948, euro 1.2586, sterling 1.6055, Swiss $1.0391. European Style: rand 11.2551, krone 6.4902, SEK 7.2033, forint 244.51, zloty 3.3242, koruna 21.808, RUB 39.976, yen 108.70, sing 1.2784, HKD 7.7543, INR 61.445, China 6.1525, pesos 13.43, BRL 2.428, Dollar Index 86.088, Oil $90.18, 10-year 2.417%, Silver $17.28, Platinum $1,251.49, Palladium $765.25, and Gold. $1,203.89

Thanks to my buddy and co-worker Jack Stapleton for finding a ticket to last night's Cardinal's game, it was a great time!  Playoff baseball in St. Louis just never gets old – I know the networks love the teams that don't get there very often like our friends from across the state, but there is nothing like looking out over the sea of red which envelopes Busch Stadium and cheering for the Cardinals.   I just hope they can win one more off of the Dodgers ace this afternoon and head to the NLCS for a second year in a row.  I was out way past my bedtime last night as the networks delayed the start of the game which kept me out past midnight so I'll be drinking a few extra cups of coffee to try and get through the day.  I've got quite a lightning show going on right now looking east toward the ballpark, lets hope these storms blow through before this afternoon's game time.  I hope everyone has a Terrific Tuesday and thanks for reading the Pfennig! GO CARDS!!

Chris Gaffney, CFA
Vice President
EverBank World Markets