Payrolls Awaited, USD Upside Bias

O/N BULLETS

• China services PMI dips in January, Aussie services PMI rises
• Fed officials give mixed views on QE3

USD

USD prospects look better today, primarily because of market positioning. The strength of equities in the last few weeks has weighed on the USD as a funding currency, but the risks today seem skewed towards some unwinding of this positive tone. The rally has essentially been liquidity based, and stronger data today could undermine this, while weaker data could hurt the revenue expectations side of the equation. While long term USD positioning is substantially long, shorter term accounts are now probably short, especially against higher yielders. So there should be scope foir the USD index to rally back towards 80 on the day.

EUR

We continue to wait for a decision on Greek PSI, and we may see this delivered on the weekend in time for the euro group meeting next week. But it is unclear that this will be dramatically positive for the EUR now, as most assume the deal will be achieved. While long term positions remains short EUR, a break through the 1.3250 area is likely to be necessary to trigger squaring of these, and while a Greek deal might be enough to trigger that, it is not clearly the case. For today, the upside risks for the USD suggest scope for EUR/USD to test lower, though it is much less vulnerable than the higher yielders.

GBP

In common with other indicators, the Lloyds business barometer rallied in January, with companies own trading prospects broadly back to the average levels seen in the second half of last year before the weak December reading. While scope for sterling strength on this looks quite limited, there is likely to be more upside if the PMI services data this morning also rallies. The pound now looks reasonably resilient in the case of both a USD rally and a EUR rally, and should benefit against the higher yielders on most scenarios today.

AUD, NZD

We would be wary of the AUD and NZD today after recent strength. Equity strength has been bolstered by lower yields and expectations of more liquidity from central banks. If this prospect of liquidity provision is undermined by strong data, or if growth prospects are undermined by weak data, higher yielders may suffer. Only an as expected outcome looks likely to be reasonably favourable, though this doesn't mean the longer term prospects for these currencies need be damaged.

Spotlight – Market looking very committed to risk – While the focus will be on the UIS data today, the market is going into the numbers heavily exposed to risk. The chart below shows how declines in US yields in the last month have led to increased appetite for high yielders and buying of currencies on the basis of yield spreads moving in their favour. This suggests that stronger data may well have a negative impact on high yielders, as strong numbers which push US yields higher will tend to undermine risk appetite. Lower yielders will however tend to suffer from widening yield spreads in the USD's favour.