Can The Recovery In Currencies Last?

Daily Forex Fundamentals | Written by GFT | Dec 09 08 01:49 GMT |

The Stories in the Currency Market AUD/JPY ( +200 pips or +3.31%) AUD/USD ( +213 pips or +3.30%) NZD/JPY ( +145 pips or +2.93%) THE STORIES IN THE CURRENCY MARKET USD: Can the Recovery in Currencies Last? CAD: 50BP or 75BP Rate Cut? EUR: Looking to Test 1.30 GBP: EUR/GBP Hits a Record Low JPY: Busy Week in Japan AUD: Soars Against Yen and Dollar NZD: Manpower Index Signals Weakness for Labor Market EXPECTATIONS FOR UPCOMING FED MEETINGS ** PERCENTAGES MAY NOT ADD UP TO 100% BECAUSE OF THE PROBABILITY OF LARGER OR SMALLER MOVES BEYOND THOSE SHOWN ON THIS TABLE US DOLLAR: CAN THE RECOVERY IN CURRENCIES LAST? For the second trading day in a row, we have seen an improvement in investor sentiment as equities and currencies stage another impressive rally. After a week of brutally painful news for the US economy, this is potentially a week for rest and recovery. There are no major US economic releases until Thursday and Friday, when we have the trade balance, producer prices and retail sales being released. Between now and then, investors are reveling in optimism that the new Administration is already making the economy their top priority and in the hope that a rescue package for the automakers will be announced soon. Investors are slowly taking their money out of the low yielding US dollar and cautiously dipping their toes back into the higher yielding currencies such as the Euro, Australian and New Zealand dollars. No News is Good News No news is good news when it comes to the currency market. The US economic calendar was devoid of any meaningful data today. Pending home sales and the IBD economic optimism index are the only pieces of US data on the calendar tomorrow and they are not usually market moving. The market's immunity to bad news suggests that everyone is tired of hearing the obvious, which is that the US economy is in bad shape and will worsen before it improves. It appears that all of the weakness in the first half of the 2009 is priced in and instead investors are latching onto the stimulus plans for hope that they will help to trigger recovery in the second half of 2009. This weekend, President-elect Barack Obama laid out his plan to create or preserve 2.5 million jobs. His focus is on infrastructure - upgrading public buildings to make them more energy efficient, building roads and highways and modernizing school buildings. He is hitting the ground running and is expected to announce a $500B to $700B stimulus plan in the first days of his administration. A Decision on the Big 3 At a time when uncertainty about the US economy is at elevated levels, the prospect of a major stimulus package and a decision on aid for the Big 3 automakers is helping to improve investor sentiment. The Big 3 automakers have dominated the headlines for the past few weeks and regardless of whether GM and Chrysler will be forced into bankruptcy, the markets will be relieved that there is a resolution. Things to Worry About There are still plenty of reasons to be skeptical about the rally in currencies and equities however. The layoffs keep on coming as Dow Chemical announces an 11 percent reduction in their workforce, which translates into 5000 jobs. InBev will be cutting 1400 jobs from the US operations of Anheuser-Busch. Bonus cuts, salary freezes and warnings about earnings have also become the norm. Watch out for fourth quarter results as the dollar's strength will most certainly weigh on profitability. Equities and currencies have become extremely oversold in the past few months and the lack of any major US economic data until Thursday is helping to fuel the recovery. If we are witnessing another bear market rally, then the rally in the US dollar and Japanese Yen is not over. USD/CAD: 50BP OR 75BP RATE CUT? The Bank of Canada will be making an interest rate decision tomorrow and the market is torn between a 50bp or 75bp rate cut. Economists expect a half point cut but Canadian interest rate futures are pricing in a 50 percent chance that the central bank may elect the larger move. Economic data has taken a turn for the worse with the IVEY PMI and employment numbers falling short of expectations. Employment decreased by more than 70K jobs last month, the largest decline in more than a quarter of a century. In addition, IVEY PMI, an influential measure of business sentiment and expected growth, also made a sharp decline off of prior months. Price pressures have eased even further since their October meeting and even though GDP expanded by 1.3 percent in the third quarter, it is a lagging indicator. The slowdown in the US economy and the drop in oil prices is a double blow for Canada. More weakness and belt tightening are expected for the automobile and commodity industries. If the BoC only cuts by 50bp tomorrow, we expect them to signal that more rate cuts may be necessary. Meanwhile the Australian and New Zealand dollars are also up strongly today despite weaker economic data. Australia's ANZ job advertisements and New Zealand's manpower survey signal more trouble to come for the labor markets in both countries. EUR/USD: LOOKING TO TEST 1.30 Having the third highest interest rate of the G10 currencies is helping the Euro outperform nearly all of the major currencies. The price action in the foreign exchange market today illustrates the impact of interest rates on currencies. The Euro rose against the US dollar, British pound, Japanese Yen, Canadian dollar and Swiss Franc, which are all currencies that have lower interest rates than the Euro. It however weakened against the Australian and New Zealand dollars, which have higher interest rates than the Euro. Economic data continues to have little impact on the currency as the euro shrugged off weaker German industrial production and investor confidence. The ZEW survey of analyst sentiment and the German trade and current account balances are due for release on Tuesday. With the region in a recession, we expect analyst sentiment to be weak. The Euro has remained immune to weak economic data and that could be case again tomorrow. The 1.30 level is within reach and there is a strong chance that the EUR/USD will test it. BRITISH POUND: EUR/GBP HITS RECORD HIGH Even though the rally in US equities has helped the British pound recover against the US dollar, the market's real sentiment towards the pound is being reflected in the euro cross, which rose to a record high today. Producer prices were mixed with input prices falling more than expected but core output prices increasing. The UK government has been on the forefront of monetary and fiscal stimulus but Lord Mandelson, the business secretary said last night that there is no 'blank check' for UK companies. He suggested that the government will leave it to individual companies to sort out their future. We continue to believe that the Bank of England will be far more aggressive than the European Central bank on delivering monetary stimulus. Interest rates are the main reason why EUR/GBP has soared in the past few weeks. The interest rate differential between 3 month Eurozone and UK LIBOR rates have moved from negative to positive with the Euro now yielding more than the British pound. Since the beginning of the year, the Bank of England has cut interest rates by 325bp while the ECB has only eased by 150bp. If this trend continues, we should see new highs in EUR/GBP USD/JPY: BUSY WEEK IN JAPAN Japanese Yen crosses staged an impressive rally today thanks to the nearly 300 point rally in the Dow. The economic calendar is very busy for Japan this week with a lot of important economic data due for release. Last night, the Eco Watchers survey reported at a record low. The indicator, which tracks consumer-sensitive blue-collar jobs, fell to 21.0; its lowest level since the Japanese started collecting the figure in 2001. Surprisingly, Asian indices largely ignored the figure, rallying an impressive 5.2%. Tonight we will receive GDP for the third quarter which is expected to confirm that Japan is in a recession. Oddly enough, such a slow-down is not a result of exposure to toxic mortgage backed securities. Instead it was spurred on by weakening international demand caused by slowing global growth and a strengthening currency. The combination has served as a one-two punch in bringing the nation to the very brink of a recession. Tomorrow, the Leading Index will be released, which is expected to show that prospects for a recovery are nowhere in sight. EUR/GBP: Currency in Play for the Next 24 Hours EUR/GBP will be our currency in play for the next 24 hours. The German ZEW is expected at 5:00 am ET or 10:00 GMT. In addition, we will have British Trade Balance and Industrial Production at 4:30 am ET or 9:30 GMT and German Trade Balance at 2:00 am ET or 7:00 GMT. EUR/GBP has reached new record highs today in an effort to continue the dramatic uptrend. The pair is now solidly in the Bollinger band buy zone. Even though it is difficult to find resistance for this move, since we are at a historic high, price action still seems reluctant to break convincingly above 0.8700. Even though various highs have breached the level, we have yet to see a close above it. For support we point toward today's lows at 0.8580, also the level where mid-November rallies failed. As the above commentary states, if the 0.8700 level is broken, we may see an extension of the rally that reaches up toward 0.8900. Since there are no levels that lie above, a serious move could ensue on the back of some significant momentum. Kathy Lien Global Forex Trading http://www.gftforex.com DISCLAIMER: GFT refers to Global Futures & Forex, Ltd. and all of its divisions, branches and subsidiaries, including Global Forex Trading and GFT Global Markets UK Limited. GFT Global Markets UK Limited is authorized and regulated by the United Kingdom Financial Services Authority. 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