Forex Trading

US Dollar to Extend Losses as Risky Assets Correct Higher

Fundamental Outlook for US Dollar: Bearish

- US Dollar Index Breaks Key Support, Signals Losses Ahead
- Retail Sales Fell Less than Expected in February
- Chinese Premier Questions the Safety of US Assets

US Dollar weakness is set to continue in the coming week as an upward correction in risky assets sends capital out of safe haven assets in search of yield. Last week, the US Dollar Index conclusively broke below a rising trend line that had guided prices higher since mid-December, opening the door for an extended pullback against the spectrum of major currencies. Indeed, the greenback’s average value against its major counterparts is now -93.7% inversely correlated with the MSCI World Stock Index. The Australian and New Zealand Dollars are likely to be the key beneficiaries once again as lucrative yields at 3.25% and 3.00% attract investors.

Although the economic calendar packs plenty of high-profile releases, traders are unlikely to see anything that has not already been priced into the exchange rate. Manufacturing sentiment is expected to sour once again, core inflation metrics are set to continue inching lower, and the rate decision from the Federal Reserve has no room to surprise with rates effectively at nil already. None of these developments add anything new to the established landscape and are unlikely to stir significant volatility across the forex markets. The statement accompanying the rate announcement seems to pack less punch than usual as well considering Ben Bernanke and company are already throwing the monetary policy equivalent of everything but the kitchen sink at borrowing costs.

The weekend’s G20 summit presents a wildcard. Yesterday, Chinese premier Wen Jiabao bluntly questioned the security of US assets, saying American lawmakers need to “ensure” their safety and musing that “We have lent a huge amount of money to the United States… of course we are concerned about the safety of our assets. To be honest, I am a little bit worried.” The Chinese government has little reason to want to talk down the US Dollar because the comparatively cheaper Yuan helps support an already suffering export sector, so Wen’s comments should not be taken lightly. If this kind of rhetoric sees any significant traction at the G20 meeting, the greenback’s correction may prove significantly deeper than otherwise expected.

Euro Forecast Unclear on Euro Zone Fears, Financial Conditions

Fundamental Outlook for Euro This Week: Bearish

- Euro gains slow on weak retail sales data
- Improved investor sentiment nonetheless improves euro outlook
- Euro nears a technical breakout

The euro finished at multi-week highs against the US Dollar, as a week-long rally in the S&P 500 hurt the safe-haven US currency. The short-term correlation between the EUR/USD and the S&P remains near record-highs, and recent trends imply that further stock market gains would lead to Euro strength. Wave after wave of bearish European economic data nonetheless limits optimism for the heavily-traded EMU currency. Fresh economic distress highlights structural risks to the Euro Zone, and FX markets will keep a close eye on developments through the weekend’s G20 summit.

Traders await the conclusions from contentious meetings likely to take place among global economic leaders. US officials have clearly stated their desire for an aggressive global response to the economic and financial crises, but their European counterparts have shown clear resistance to matching sizeable US fiscal and monetary stimuli. Fears of snowballing fiscal deficits and the terms of EU membership prohibit many members from aggressive public spending, and this may in fact leave the Euro Zone at a disadvantage. Furthermore, the European Central Bank seemingly lacks the power to enact similarly aggressive monetary policy. These two key limitations suggest that the US may enjoy more favorable conditions for eventual economic recovery. The risks of EMU and ECB inaction on domestic financial and economic crises continue to mount, and the euro could potentially suffer against the US dollar through the medium term as a result.

Through the shorter-term, traders will keep a close eye out for the coming week’s key European inflation and investor confidence results. Analysts predict that Euro Zone Consumer Price Index inflation picked up through the month of February. Such results could further handicap the European Central Bank’s ability to boost domestic economic prospects. Unless we see real risks of deflation, the ECB is unlikely to drop interest rates far beyond current levels. Otherwise, surprises in upcoming German ZEW figures could elicit responses in financial markets and—by extension—the euro itself. Given that the EUR/USD continues to trade almost tick-for-tick with global stock indices, it will be critical to watch whether the S&P 500’s recent recovery leads to further short-term gains.

Japanese Yen Could Fall on Intervention Concerns Amid G-20, BOJ Meetings

Fundamental Outlook for Japanese Yen: Bearish

- Swiss National Bank’s intervention spurs speculation of Bank of Japan intervention in JPY
- Japan posts first current account deficit in 13 years as exports fall 46.3% from a year ago
- Japanese machine orders plunge a record 39.5% in January from a year ago

The Japanese yen ended the past week off on a mixed note, as the currency gained versus the US dollar, British pound, and Swiss franc but fell against the Canadian dollar, euro, Australian dollar, and New Zealand dollar. While much of this had to do with a resurgence in risk appetite, as evidenced by the 9 percent rise in the Dow Jones Industrial Average from the March 6 close through the March 13 close, we also have to consider renewed prospects of currency intervention. This was brought back to the forefront by the Swiss National Bank, who said on March 12 that they would work to prevent any further appreciation of the Swiss franc against the euro.

The situation in Switzerland is very similar to that of Japan, as exporters have been hurt by the gains in their national currencies against the currencies of their biggest trading partners. For Japan, this refers specifically to China and the US, which are the top two importers of Japanese goods (according to the CIA World Factbook), as the Japanese yen has gained over 9 percent against both the Chinese yuan and US dollar over the past 6 months. Japanese officials have cited concerns about the yen’s appreciation in the past, but they have yet to move toward hard-lined verbal intervention, let alone physical intervention. With the G-20 meeting over the weekend, there is potential for discussion of currencies to occur, and if this is actually written into the final communiqué, the yen could pull back sharply.

However, that is not the only piece of event risk looming on the horizon for the Japanese yen. The Bank of Japan is expected to announce late on March 17 that they have left their target rate unchanged at 0.10 percent, but the release of the Bank’s monthly report at 01:00 ET on March 18 should provide more information on their view of economic conditions. Over the past few months, the BOJ’s report has reflected consistently worse economic assessments, and this may continue to be the case as the higher value of the Japanese yen takes a toll on the country’s export industry. Given the mounting speculation over the potential for Japanese currency intervention, there is also a risk that we could see such an announcement with this central bank meeting, which would likely drive the Japanese yen lower. However, if the markets ultimately find that neither the G-20 nor the BOJ even mention currencies, the Japanese yen could see a bit of a boost by the end of the next week.

British Pound Traders Focus On Policy As 23-Year Lows Loom

Fundamental Outlook for British Pound: Bullish

- The Bank of England kicks off its quantitative easing effort with a successful 10.5 billion pound purchase
- Industrial production shrinks the most in 28 years as the global recession weighs heavily on the United Kingdom
- UK Finance Minister Alistair Darling takes world’s policy officials to task to stabilize world’s markets and economy

The British pound has recovered some ground against the benchmark dollar; but not enough to put it out of harms way next week. In fact, the GBPUSD pair is just a few hundred pips off a long-term triple bottom that spans all the way back to 1985; and few would disagree that the sterling’s long-term trend is bearish. Clearly technical traders are deferring to fundamentals to make a decision on direction as the ultimate move the market makes could redefine the long-term trend. The week ahead holds critical fundamental influence; and could therefore catalyze the break pound traders have been waiting for.

Redefining a trend is not the job of a single indicator or a shift in market sentiment. To put the pound into multi-decade lows or in a true bullish reversal we will need to see the fog surrounding financial and economic fears lift. Market health is a genuine global phenomenon now; and the advantages of one economy’s investments versus another is largely based on the health of the economy. Considering the market consensus for the UK through 2009, this is a bad position to be in. The IMF has projected the UK’s 2009 recession would be the worst in the industrialized world. However, large institutions are often the last to come to such realizations; and the market has already priced in what may be the worst of the dour forecast. In fact, the pound may be oversold as the market has lowered its expectations relative to the UK’s counterparts. Over the past months, the government has made aggressive strides to correct its deep slump. Quantitative easing, nationalization and large stimulus funds speak to officials commitment to genuinely turning the economy around. This contrasts the Euro Zone’s inability to come to region-wide solutions or Japan’s political problems in passing necessary aid. This means that one of the biggest hurdles to the pound’s rebound is sentiment. Should the G20 meeting this weekend end with little in the way of global results, a case-by-case evaluation of economic potential may find the UK in good light.

While a lot rides on the UK’s future relative to its global counterparts, an active economic docket will ensure that news and policy in other economies won’t be the only driver for pound price action. The top event risk for the coming week lies in Wednesday’s combined release of the BoE minutes and employment data. The government’s assessment of economic activity will almost certainly be dim especially with Government King sounding so glum recently. However, the employment numbers are less objective and will give a genuine benchmark for growth potential through the first half of the year. Steady job losses will equate to a drop in consumer spending and therefore, deeper contraction in economic activity. The other notable releases for the week will be the Rightmove House Prices indicator and public lending figures. Both have an obvious influence on growth forecasts; but they will further offer a loose measure of credit activity – an essential gauge for an economy that is already relegated to the worst of the economic recession and financial crisis.



Written by Ilya Spivak, David Rodriguez, John Kicklighter, Terri Belkas, John Rivera and David Song, Currency Analysts
Article Source - Forex Trading Weekly Forecast - 03.16.09