Forex Trading

• Can Stocks And High-Yielding Currencies Maintain Their Rally Without Fundamental Support?
• Doubts Over the Reliability of the Fed’s Stress Test Growing
• How Far Ahead Will Speculators Look in Forecasting a Global Recovery?

The collection of European monetary policy decisions, US non-farm payrolls and the results of the Federal Reserve’s bank Stress Test last week seems to have been a turning point for sentiment in the market. However, the tempered pace of job losses in the world’s largest economy and in-line capital shortfalls from 10 of the largest banks was more effective at curbing the ongoing recovery in optimism than supporting it. Looking at those asset classes with an indelible link to sentiment and risk, it was clear that investors from all levels of the market realize that capital gains and yield can only be supported by a genuine economic recovery – which is still months away at the earliest. The deflation in optimism for stocks has been modest so far, as the benchmark Dow has pulled back less than four percent from the four month highs set just last week. The same can be said for sentiment in the currency market. This past week, the Carry Trade Index managed to top six-month highs before being turned off its steady advance. So, while the market has taken a step back, we have to consider that the bias over the past two months is still bullish on risk. However, should the shift in underlying market conditions continue alongside the fledgling trend in asset prices, we may see a true collapse in bull convictions and the revival of a long-term bear market. We are still a long ways off from this scenario though. The DailyFX Volatility Gauge has ticked above 14 percent just after exploring a seven-month low. Along similar lines, risk reversals and interest rate expectations from the most risk prone pairs have edge off their steady trends of improvement to raise the potential for a pause rather than a full-blown retracement.

From a fundamental perspective, it is ironic that risk appetite was rising into thedense round of event risk last week; and after the data crossed the wires with a positive bias, the advance would fall apart. Putting this incident into perspective though, this reaction played out exactly as would have been expected. Over the past two months, we have seen investors lower their guard against the threat of an unexpected market shock and begin to reinvest their capital into risky assets. However, throughout this period of burgeoning optimism, the outlook for economic activity and returns were in fact deteriorating. Growth forecasts from policy officials and central bankers are laden in caution even though they conservatively project a ‘slow’ or ‘gradual’ recovery through the end of this year and into the beginning of 2010. Meanwhile, hard data is still painting the picture of a severe recession. Advanced readings on first quarter GDP figures are looking at significant, negative revisions while timely indicators like employment maintain their painful trajectory. Now that sentiment has broken trend, investors will be more wary with their confidence. A potential concern going forward is the accuracy of the Fed’s Stress Test. There is speculation that losses were understated and forecasts overstated - a questionable combo.

Written by John Kicklighter, Currency Strategist
Article Source - Can Stocks And High-Yielding Currencies Maintain Their Rally Without Fundamental Support?