Dollar Drops Ahead of NFP as Traders Fear The Worst

Talking Points
• Japanese Yen: quite near 102.50 in pre-NFP trade
• Euro: Rises above 1.5700 on widespread dollar selling
• Pound: Above 2.0000 on dollar selling
• US Dollar: NFP on tap

In contrast to most pre-NFP nights when price usually remains subdued, the dollar saw some strong volatility at the start of the European session losing ground against both the euro and the pound as traders became increasingly concerned with the deteriorating US labor conditions. The EURUSD cleared the 1.5700 level while pound traded above the psychologically important 2.0000 figure for the first time this week.

Up until yesterday morning the dollar looked to be on the way to staging a strong counter trend rally, with most market players beginning to focus on the softening economic situation across the pond where data this week indicated that both EZ and UK are beginning to feel the impact of global slowdown in growth. However, yesterday’s horrid US weekly jobless claims which printed above the key 400K level for the first time since hurricane Katrina completely changed the sentiment of the market.

Since the release of the jobless claims report at 12:30 GMT yesterday both euro and the pound have risen nearly 200 points on fears that US labor situation is deteriorating rapidly. With consumer debt at record highs, traders fear that a massive loss of jobs and income could send US reeling into a severe recession as consumers become unable to service their obligations and demand for goods and services contracts significantly.

Thursday’s jobless number which is not included in this months NFP release, may explain the surprising action of the night, with some market players already discounting today’s report as they anticipate much worse numbers in the future. As our colleague Kathy Lien wrote yesterday in, Non-Farm Payrolls: Dollar Outlook Hinges Upon the Degree of Job Losses “Over the past 3 decades, the US economy has gone through 3 recessions. In each of those 3 recessions, there was a string of job losses that lasted for a minimum of 10 months. Many people argue that the current downturn in growth could be more severe than the recession in the early 2000s due to the triple blow of a housing crisis, credit crunch and skyrocketing commodity prices. If this is true, we will see far more than 3 consecutive months of job losses. Also expect the level of job losses to climb because in each of the past 3recessions, the largest single month job loss was more than 300k! In this context, a 100k drop over the next few months is not only realistic but practically guaranteed.”

Despite the dour mood, a better than expected number should provide the greenback with at least a temporary boost as both sentiment and positioning has become considerably lopsided towards the euro. If however the number prints at –100k or worse, al hope for a dollar rally will evaporate and the pair may try to make a run for the new highs once again.