Forex Trading

US Dollar Could Resume Uptrend on Safe-Haven Demand This Week

Fundamental Outlook for US Dollar: Bullish

- ISM Manufacturing, pending home sales were better than expected
- G-20 meeting yielded few surprises, increased financial regulation
- US non-farm payrolls fell in line with expectations by 663,000, unemployment rate hits 25-year high of 8.5%

The US dollar was driven lower throughout last week as increased risk appetite only worked to the benefit of high-yielding currencies, and by Friday, the US dollar index settled right above intraday trendline support, which connects the March and early April lows, at 84.20. Where the greenback goes from here will depend, not surprisingly, on risk trends as fundamentals have yet to really matter again for the currency. Indeed, for the most part, US economic data has beaten expectations – with the exception of Friday’s NFP and ISM non-manufacturing figures – and yet the US dollar has continued to fall. As a result, it will be important to watch how US releases impact investor sentiment, and looking at the US economic calendar, Wednesday’s Federal Open Market Committee (FOMC) meeting minutes will likely be the big event to watch.

In March, the FOMC left the fed funds target range at 0.0 percent - 0.25 percent but the big surprise was that they officially announced quantitative easing efforts. Since this information has already been revealed, the release of the minutes may not be very market-moving, but they will likely add to indications that the FOMC will leave the target unchanged throughout much of 2009 and that they will continue to use the central bank’s balance sheet in an effort to improve credit conditions. The one thing that may capture the market’s attention is the FOMC’s long-run projections for growth, unemployment, and inflation as revisions that indicate that the outlook appears to be even worse than previously anticipated could hurt risk appetite throughout the financial markets, and thus lift safe-haven currencies like the US dollar. However, if the revisions go unchanged, traders may shrug-off this once critical release.

Euro Strength Dependent On Outlook For Risk And Interest Rates

Fundamental Outlook for Euro This Week: Bearish

- ECB cuts rates less than expected, leaves the dour open for further cuts
- Euro area inflation cools and German joblessness rises – entrenching the regions recession
- The euro has yet to forge new highs. Read the Technical Weekly report for a different view of the market

The pressure has seemingly been taken off the European economy with the announcement of bold policy objectives from the G20; and a smaller than expected ECB rate cut has once again left the forecast for the Euro Zone interest rates at an advantage to many of its global counterparts. This seems to be the ideal outcome for the euro; but is this really the case? To really gauge the euro’s strength, we have to consider the general level of risk sentiment in the market, the potential for unseen threats to the regional economy and the likelihood that the central bank will be able to avoid the desperate policy efforts of their US and UK counterparts.

Before considering the euro’s position on the spectrum of currency market strength, you need to first have a feeling for the general mood in the market. Sentiment seems to be improving and has been for the past few weeks. However, this isn’t finding much support from growth and expected return forecasts. Recession has seized the global economy and even conservative estimates see the slump extending at least into the second half of the year. This means, that speculative capital finding its way back into the market (from money market accounts, government debt and other relatively ‘risk-free’ assets) will require a very high level of safety and returns that can compensate for risk that will likely remain elevated for quite some time. The euro will struggle to make the grade on both fronts. For returns, the Euro Zone seems to have a leg up thanks to a 1.25 percent benchmark rate. However, this primary rate doesn’t have the same flexibility that its Australian and New Zealand counterpart have to further lower rates - should economic and financial conditions warrant it - and still come out with an attractive yield advantage. ECB policy officials clearly see the disadvantage of rates near zero, but they are running out of options and time. In his public address, President Trichet suggested the current rate was not necessarily a floor and that the central bank would announce its decision on pursuing unusual policy tools next month. This may include quantitative easing, purchasing additional private debt or any other number of possibilities; but for the euro trader, it will mean conditions in the Euro Zone are just as bad as they are in the United States and United Kingdom.

It will take time and many exogenous fundamental shifts from within the Euro Zone and the broader market for the larger fundamental themes described above to play out; but in the meantime, event-driven traders will still have a hearty round of economic releases to work with. Immediately diving into the health of the financial markets, the forward looking Sentix Investor Sentiment gauge will offer a look at confidence from a group that is the most economically educated and directly vested group in the entire economy. The expected rebound comes after record lows and wouldn’t include the influence that the G20 statement had on the crowd however. Also from the Euro Zone, we have the retail sales and final 4Q GDP reading. Both are lagging indicators; but they will stand as a reminder of what conditions the economy is truly in. the German docket offers the more interesting mix. Trade figures have been somewhat overlooked recently, but Europe’s largest economy (and the most vocal against extending its fiscal stimulus) may change its tune to injecting more aid into its economy if its still-strong trade links diminish and exacerbate anemic domestic demand. Factory activity and orders will further offer a good leading indicator on the likely trend in general growth, employment and trade. Most of the European markets will be closed Friday for the Good Friday holiday.

Japanese Yen Could Rise Amid Technical Corrections

Fundamental Outlook for Japanese Yen: Bullish

- Japan’s jobless rate hit 2-year high, household spending down for 11th straight month
- Bank of Japan’s Tankan index plunged to the lowest level since recordkeeping began in 1974
- G-20 summit offers few surprises, takes no stance on currencies

The Japanese yen was the worst-performing G10 currency through the past week’s trade, as a clear (if temporary) improvement in financial risk appetite led the currency substantially lower against higher-yielding counterparts. However, any sort of turn in the latest resurgence in risk appetite has the potential to drive “risky” assets lower, and the Japanese yen – along with the US dollar - continues to be a prime recipient of such fear-related money flows. JPY price action in the week ahead will subsequently depend on the trajectory of the US S&P 500 and other key risk barometers. That being said, predicting short-term price action in extraordinarily volatile assets remains nearly impossible. We would otherwise look to key economic event risk out of any given economy to dictate price action in the domestic currency, but FX traders have proven almost completely indifferent to Japanese economic fundamentals. As a result, it may be best to defer to broader price and risk trends as far as the Japanese yen is concerned, but given the sharp declines that the currency has experienced over the past month, the yen may be vulnerable to a technical corrections higher.

That said, it’s always good to keep tabs on the health of the Japanese economy, which remains dour. This week, the leading economic index is forecasted to slump further, reflecting nearly non-existent domestic demand and pessimistic investor confidence. Meanwhile, the Bank of Japan is widely anticipated to leave rates unchanged at 0.10 percent this week, as they will likely do throughout 2009. The thing to watch here is the potential impact that the bank’s meeting minutes could have on risk appetite, as indications that BOJ officials have judged that the current economic situation is deteriorating more rapidly than previously anticipated could weigh on the Nikkei, but lift the Japanese yen purely as a result of flight-to-safety.

British Pound Will Follow The BoE Rate Decision Despite Forecasts

Fundamental Outlook for British Pound: Bullish

- Despite a lack of details on executing its proposals, the G20’s assurances benefit the pound
- Consumer credit contracts for the first time in 16 years through February - a sign of dour economic conditions
- A two month high in GBPUSD hints at a reversal. Read the Technical Weekly report for a different view of the market

The British pound has charged ahead through the close of the week with a break to a two-month high against the US dollar and a near five-month high against the Japanese yen. These are strong moves; but do they necessarily reflect the strength of the sterling itself or is this more the reflection of a rise in risk appetite? Both the US dollar and Japanese yen are key safe haven currencies (which rise when traders are seeking to avoid waves in the financial markets and falling when the appetite for risk picks up). The better scale for the pound are euro and Australian dollar – both of which are still stronger than the British currency. However, will this be the case next week and the weeks beyond? For sterling traders, the long-term concerns still apply (even when measured up against an increasingly spread field of counter-currencies): is the United Kingdom the worst performing economy in the industrialized world; and is the country’s financial system set to suffer from additional implosions of key financial institutions?

To gauge this currency’s dependency on risk appetite, we can look back to last week’s top economic event – the G20 meeting. The market has generally accepted the IMF’s forecast that the United Kingdom would suffer the worst recession in the industrialized world through 2009. This is largely the reason for the Prime Minister Gordon Brown’s enthusiastic effort to produce a global and coordinated rescue plan that the group of international leaders would sign up to. With sentiment so pessimistic on the pound to begin with, the apparent success of the meeting easily leveraged a boost in sentiment for the pound. However, the policies laid out in the statement provides more sweeping proposals than the immediate action that investors and consumers were hoping for. Without clear timelines and contribution promises from members, skepticism will grow that fiscal aid will come close to stem the bleeding of the global economy. On the other hand, regardless of what global leaders can ultimately agree to, UK officials will continue to support their own economy. The government has shown a flexibility and timing with its policy that no other nation can match. While, the state of its economy and markets certainly warrants this response, it will eventually pay off while others could struggle to revive growth.

The impact of economic policy and health of one economy relative to its major counterparts are conditions that play out over a considerable time. In contrast, the event risk that populates the docket next week will have a far more immediate impact on price action – while further altering forecasts for the longer-term fundamental considerations. The list of scheduled releases due next week is certainly not lacking for potential. The most pressing event will be the Bank of England’s rate decision. Even though the MPC has cut rates to near zero (they are not expected to cut lowered any further; but even if they were, the market would not likely be surprised) and have been early adopters of unorthodox policy methods; the market will take heed of the group’s outlook. An improvement to the outlook for the economy and markets owing to the central bank’s and government’s efforts would be considered a key turn for the better for the pound. Such convictions must also be won by data. The consumer confidence report on Tuesday will gauge the consumer’s contribution to growth. Industrial production and visible trade will gauge the influence of two other major components of GDP. On Friday, the UK capital markets will be closed in observation of Good Friday.



Written by Terri Belkas, John Kicklighter, Ilya Spivak, John Rivera and David Song, Currency Analysts
Article Source - Forex Trading Weekly Forecast - 04.06.09