The New Episode In The (US) Credit Crisis Slows The USD Rebound

Daily Forex Fundamentals | Written by KBC Bank | Sep 15 08 07:48 GMT |

Sunrise Market Commentary

US Treasuries: safe haven in turbulence Renewed turmoil in the financial sector will benefit Treasuries once more, and especially the shorted dated issues. Longer-dated Treasuries should take into account that the bill for cleaning up the mess would mean more, much more supply further down the road. Rate cuts become again a real possibility. The yield curve should steepen. ECB rate cut expectations gain momentum We don't go against the flow today and take on a bullish view on the European bond market, the more as recent ECB comments of Wellink and Weber suggest that the ECB is becoming more comfortable with the inflation outlook. This may bring ECB rate cuts sooner rather than later on the table and should result in a steepening of the European yield curve. FX: The new episode in the (US) credit crisis slows the USD rebound. Rising uncertainty on the fate of US investment bank Lehman brothers made investors turning more cautious on the US currency. However, with the fall-out of this crisis most probably spreading far beyond the US, the question is whether other currencies (like the euro) should be able to take a sustained advantage of the recent developments. The Sunrise Headlines The credit crisis is burning its way further to the hearth of the capital system, while authorities are desperately trying to erect some hurdles that should stop the infection to undermine the entire system and the economy. The survival of the whole US investment bank community is now highly uncertain and a reorganization of the financial architecture is taking place. Tense negotiations over the weekend brought no solution for Lehman brothers that files for chapter 11 bankruptcy. Ten banks committed to establish a $ 70 billion borrowing facility to bolster worldwide liquidity and reduce volatility from which each bank would be permitted to borrow up to one third of the total facility. In addition, the banks will work together for an orderly resolution of derivative exposure between Lehman and its counterparties. The Fed published a statement announcing measures of support for the financial system. It will start accepting a wider array of collateral for emergency loans, including equity for the first time ever. In addition, Schedule 2 TSLF auctions will be conducted each week (instead of every two weeks) for an amount of $ 150 billion (from $ 125 billion previously). Bank of America agreed to buy Merrill Lynch, itself under severe selling pressures, for 44 billion $ (29$ a share), according to news sources AIG, the biggest insurer, itself under severe pressure because of its exposure to toxic mortgage-related debt is looking for a $ 40 billion emergency loan by the Fed, according to some press agencies, to be re-paid by the proceeds of a sale of assets. Currencies: The New Episode In The (US) Credit Crisis Slows The USD Rebound Friday's trading session marked the end of a week-long decline in EUR/USD. During the morning session in Europe, EUR/USD already moved higher, at that time support by a better stock market sentiment. However, later in the session the uncertainty on the fate of US investment bank Lehman brothers gradually changed the recent trading paradigm. Recently, rising uncertainty supported the yen and the dollar and was a negative for the euro. However, the lack of visibility on the US policy approach with respect to Lehman and a growing number of indications that the US authorities were no longer prepared to bail out the ailing investment bank at any price gradually changed investors' positive attitude towards the dollar. EUR/USD throughout the US trading session and over the weekend staged quite an impressive rebound. The pair reached an intraday/correction high in Asia in the 1.4475/81 area this morning. However, EUR/USD already gave up part of its gains after the announcement Lehman filling for bankruptcy. Of course, the Lehman story is not the only part of this weekend's story. A group of major banks forming a pool to support market liquidity and Bank of America taking over Merrill Lynch could be considered as factors that could limit the spreading of the damage of the crisis. Today, there are some less important eco data on the calendar in the US, but the escalation of the credit crisis will be the most dominant theme for trading today. Over the previous weeks, EUR/USD was caught in a forceful downtrend. The decline in the oil price and growing signs of a deterioration in the European economy (and elsewhere outside the US) caused a sharp re-allocation in favour of the dollar. The dollar even became favoured over the euro in case of global investor uncertainty, even if the source of that uncertainty came from the US. However, as indicated, this paradigm as been overthrown last Friday. Markets will now try to assess the next policy steps. After this weekend's turbulence, the markets will probably speculate on additional US interest rate cuts. However, we are not sure of the Fed making such a step already today or even at this week's Fed meeting. The Fed will probably focus on the effect of the technical measures to support market liquidity and any additional rate cuts will probably in the first place depend on the economic impact from the crisis. On top of that, the fall-out of this crisis on the European economy (and the European financial system) will also raise speculation on ECB interest rate cuts sooner than anticipated until now. So, the impact on EUR/USD could be more balanced than one might assume at first sight. Recently oil was also an important driver for EUR/USD and the oil price extends its decline this morning. However, we don't think that oil will be a key factor for EUR/USD trading in the current environment. EUR/USD rebounds on Lehman Support comes in at 1.4293 (ST low), at 1.4230 (Gap hourly), at 1.4157 (STMA), at 1.4074/51 (Daily + weekly envelope), at 1.4032 (MT break-up), at 1.3937 (Uptrend line) and at 1.3882 (Reaction low). Resistance is seen at 1.4479/87 (Reaction high/Boll Midline), at 1.4518 (Starc top), at 1.4580 (Break-down daily), at 1.4687 (Broken weekly channel bottom), at 1.4706 (38% retracment). The pair is still in neutral conditions. USD/JPY From a technical point of view, on Friday we already indicated a first potential sign that the downtrend was losing momentum and the price action on Friday and over the weekend indeed suggests a halt to the standing EUR/USD decline. The pair currently testing the MTMA is another indication. The picture is still far from cleared out and one should expect more wild swings in the days to come. However, for now we assume EUR/USD to have entered a consolidation pattern between 1.3882 (reaction low) and the 1.4575/80 breakdown area. A re-break above the latter would indicate a further loss of momentum in the dollar. While this is not our preferred scenario, in the current environment of elevated market stress, stop-loss protection on EUR/USD shorts is warranted. On Friday, USD/JPY trended gradually higher throughout the session. Especially the pair holding up rather well during the US trading hours (given the Lehman uncertainty) was remarkable. The sharp rebound in EUR/JPY at that time through the cross rates might have played a role. Nevertheless, over the weekend, the logical market reaction was again re-established and USD/JPY dropped rather sharply on the Leman crisis with the pair testing bids in the 105.30 area this morning. Japanese markets are closed this morning for local holiday. Of course, also for yen trading the developments on global (credit) markets will be key today. On the technical charts, USD/JPY staged a gradual rebound from the mid-July reaction low to set a new reaction high at 110.68 on August 15. Since then, the pair entered a consolidation pattern and gradually slipped through a series of support levels. There were some tentative signs that the correction was slowing last week, but the developments over the weekend again caused USD/JPY testing the recent lows in the 105.55 area. Our call for range trading in the 105.53/110.67 sideways range is under heavy pressure. Stop-loss protection to defend a break is warranted in the current environment. The yen should remain well supported as long as current market tension persists. USD/JPY: tests 105.50 support area Support stands at 105.28/18 (ST low/Break-up daily), at 104.97 (38% retracement), at 104.31/31 (Starc bottom/weekly envelope), at 103.77 (16 July low). Resistance comes in at 107.01/15 (STMA/daily envelope), at 107.76 (MTMA), at 108.40/52 (Daily Channel top/Weekly envelope), at 109.08 (Last Week high). The pair is in oversold territory. EUR/GBP On Friday, EUR/GBP extended its correction lower and tested bids in the 0.7915 area late in the session on Friday. The move was again mostly technically inspired as there were no important UK eco data on the calendar. Over the weekend, the sterling also became a victim of the global financial uncertainty and EUR/GBP even temporary returned to the 0.80 area and trades in the 0.7965 area at the moment of writing. Today, the UK eco calendar is empty. As for all other major cross rates, global market developments will also set the tone for sterling trading. Recently, sentiment turned somewhat less negative on the sterling, but we would be surprised the see sterling gaining further ground in an environment of heightened financial stress and risk aversion (unwinding of carry trades). Two weeks ago, EUR/GBP tried to break out of the longstanding sideways 0.7760/0.8098 trading range, but the test was rejected and this triggered a correction sending the pair lower in the previous range. In line with EUR/USD, we indicated on Friday that the EUR/GBP correction could lose momentum. We hold on to that view, even if the losses for sterling/rebound in EUR/GBP over the weekend are far from spectacular. We hold on to our view that it is too early for a major/sustained comeback of the sterling. For now we stay neutral on EUR/GB EUR/GBP correction to slow on global tensions?….. Support stands at 0.7932/12 (ST low/Reaction low), at 0.7905/98 (Reaction low/weekly envelope), at 0.7891/82(Daily envelope) and at 0.7882 (38% retracement). Resistance is seen at 0.8005 (ST high), at 0.8014/16 (Boll Midline/ break-down), at 0.8023% (38% retracement), at 0.8047/50 (MTMA/reaction high). The pair is moving into oversold territory. News US: Consumer sentiment improves, but sales shrink Retail sales fell 0.3% M/M in August, while the June figure was downwardly revised from -0.1% M/M to -0.5% M/M. The consensus expected a rise of 0.2%M/M. Core sales (excluding cars) fell 0.7%M/M, indicating that car sales rebounded (1.9% M/M from -4.3% M/M) after oil prices fell back from their peak reached in July. Gas station sales, on the contrary, slumped 2.5% M/M as motor fuel demand is relatively inelastic and therefore lower prices lead to lower dollar sales. Another sector performing weak was the housing-related area of electronics (1.3% M/M from 0.0% M/M) and building materials (-2.2% M/M from 0.3% M/M). These disappointing retail sales could indicate that the impact of the tax rebates may have faded away and therefore household spending may continue to be weak in the coming months. In August, PPI fell by a larger-than-expected 0.9% M/M, while on a yearly basis producer prices rose 9.6% Y/Y against 9.8% Y/Y in July. The consensus expected a more moderate fall of 0.5% M/M, while the year-on-year figure was forecasted at 10.2% Y/Y. Excluding food and energy, inflation came out in line with the expectations at 0.2% M/M and 3.6% Y/Y (against 0.7% M/M and 3.5% Y/Y in July). Most of the decline was due to a fall in gasoline (-3.5% M/M from -0.2% M/M) and residential gas prices (-5.0% M/M from 8.8% M/M). This sharp decline in producer prices could indicates that the peak in inflation might be over due to lower energy prices. In the next months, more attention will go to core inflation to see whether second-round effects can be avoided. The September Michigan consumer confidence survey came out surprisingly strong at 73.1, against the expected 64.0. This is the third straight monthly increase and indicates that consumers' sentiment is improving rapidly on lower energy prices. Both sub-indices showed significant improvements with the economic conditions rising from 71.0 to 76.5 and the economic outlook climbing from 57.9 to 70.9. Consumer sentiment is rebounding sharply and rapidly, but this is not followed by concrete actions as retail sales contracted. EMU: Industrail production contracts the third consecutive month In July, industrial production fell 0.3% M/M, while the consensus was looking for a decline of 0.2% M/M and the June figure was downwardly revised to 0.2% M/M. On a yearly basis, industrial production deteriorated sharply from 0.8% Y/Y to -1.7% Y/Y, the lowest level in more than five years. Looking at the details, both durable and nondurable consumer goods showed significant declines and also capital goods deteriorated. This weaker-than-expected outcome raises fears that GDP will contract again in the third quarter and the euro zone economy is falling into a recession. Download entire Sunrise Market Commentary Disclaimer: This non-exhaustive information is based on short-term forecasts for expected developments on the financial markets. KBC Bank cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalized investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a KBC judgment as of the data of the report and are subject to change without notice.