Dollar Slips Under Mild Correction Pressure

NEW YORK (BBH FX Strategy) -- The dollar is trading on the back foot as mild corrective forces unfold, underpinning the steady improvement in risk appetite.

Indeed, the combination of a well-received Greek bill auction, lower eurozone spreads and news that Fitch is unlikely to cut France's AAA rating this year have supported the euro ahead of 1.28. We still see scope for the short-covering rally to continue in the very near term but would advise selling into rallies near 1.282. Support rests between 1.272 and 1.274.

Global shares are broadly higher with the MSCI Asia Pacific index up 1.2%. The EuroStoxx 600 is currently up 1.5% led in part by the 3% rise in bank shares, while bund and gilts are lower on the day. As a consequence of the boost to sentiment, dollar bloc currencies, BRL and ZAR are leading the move higher against the USD, with the BRL up 1.3%.

Unprecedented intervention by Japanese officials on Oct. 31 may not have weakened the yen, but it has managed to suck volatility out of the market. The benchmark month implied volatility is slipping below 8% for the first time since late 2007. The dollar itself is about 2% above its record low JPY 75.35 low.

The most important development in Japan in recent weeks is the drive by the Noda government to press ahead with plans to double to retail sales tax to 10% by October 2015. The tax hike is ostensibly to offset the rising costs of social security.

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Noda committed to the tax at last November's G20 meeting, but it has a high domestic cost. Nine members of the DPJ have bolted in objection to form a new party and Noda's support in the polls stands near 36%, according to a December Nikkei poll, off 30 percentage points since Noda assumed the post.

Hikes in the sales tax in 1989 and 1997 were very divisive. The cabinet approved the new tax hike in two steps, taking effect in April 2014, from 5% to 8%, and in October 2015, from 8% to 10%. The Diet is expected to consider the measure by the end of March. Passage is not assured and there is speculation that it may require a cabinet shake-up at the minimum. Noda is threatening to turn it into a confidence motion. The dollar seem confined to a JPY 76.00 to JPY 78.00 range.