Weekly Forex Currency Review 03-07-2009

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The trends in risk appetite and the global economy will continue to have an important market impact in the short-term. Overall market conditions are liable to be more testing during the third quarter due to fears that the global economy will still face major difficulties in securing a sustained recovery. In this environment, there is scope for increased defensive dollar support with high-yield currencies struggling to extend gains.      

Key events for the forthcoming week

Dollar:

Reserve management policies will remain very important with official comments monitored very closely. There will be underlying fears over a move away from the US currency, but there is very little incentive for the dollar holders to allow substantial US currency weakness. The US economic data has been generally mixed, but he net result is that there are liable to be increased fears that any economic recovery will stall very quickly.  In this environment, underlying dollar demand is liable to slightly firmer which will help cushion the US currency from further selling pressure. The US currency will still find it difficult to see any firm buying support.

The US economic conditions and medium-term reserves policies continued to have an important impact on the US currency. Currencies struggled to break out from recent ranges as moves quickly stalled. Risk appetite was generally weaker following the US employment report and this helped push the Euro weaker against the US currency with the relationship seen over the past few months still holding.

The dollar weakened sharply in US trading following a report that the Chinese authorities had called for the issue of global reserve policies and the introduction of a new reserve currency to be discussed at the G8 meetings next week

The longer-term dollar indicators were mixed as the latest data recorded an increase in the dollar’s proportion of global reserves. In contrast, there was evidence of a cautious revival in US investment flows overseas. If there is a sustained increase in risk aversion, then these flows could be jeopardised.

The ISM index for the manufacturing sector rose to 44.8 in June from 42.8 the previous month which was marginally above expectations, although there was some disappointment that the orders index slipped back to below the 50.0 level which suggested an important risk that any recovery in the industrial sector will stall relatively quickly. The US Chicago PMI index was stronger than expected with an increase to 39.9 in June from 34.9 the previous month, although this still indicated a significant contraction in the manufacturing sector.

There was a surprisingly weak report for consumer confidence. The June Conference Board measure weakened to 49.3 from a revised 54.9 the previous month, disrupting the recent run of favourable consumer-related data.

The ADP report recorded a private-sector employment decline of 473,000 for June after a revised 485,000 drop the previous month.  The headline US employment data was weaker than expected with a payroll decline of 467,000 for June following a revised 322,000 the previous month. The unemployment rate increase was slightly lower than expected with an increase to a 26-year high of 9.5% from 9.4%.

The secondary elements in the data continued to give significant cause for concern with a decline in weekly hours while the unemployment increase was held back by a decline in the workforce which will maintain fears over the income levels and consumer spending outlook. Jobless claims also remained above the 600,000 level in the latest week at 614,000.

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The Euro-zone recovery is liable to remain unconvincing in the short-term with a lack of momentum. In this environment, there will also be further structural vulnerabilities and fiscal stresses with the threat of further credit-rating downgrades. The Euro will gain some degree of support when risk appetite recovers while it will be more vulnerable to selling pressure if confidence in the global economy also weakens.  The net risks suggest that it will be difficult to make much headway above current levels. 

The Euro looked to secure net gains on the crosses during the week, but struggled to sustain the gains as underlying confidence in the economy remained fragile and it consolidated near 1.40 against the Euro.

The Euro-zone data recorded a rise in German unemployment to a two-year high, although the monthly increase was lower than expected. The flash Euro-zone consumer inflation estimate recorded a decline in the annual rate to -0.1% from 0.0% the previous month, the first ever annual decline

As expected, the ECB left interest rates on hold at 1.0% following the latest council meeting. Despite voicing concerns over the 2009 outlook, bank President Trichet was generally neutral in his comments over the economy and interest rates and his comments overall suggested that the bank is in a holding pattern to await further developments in the real economy. Trichet was keen to emphasise that the bank had prepared an exit strategy if there was any evidence of inflation risks.

Yen:  

There will continue to be strong interest in overseas investments with further fund launches and there will be downward pressure on the yen at times. This selling pressure will tend to increase if there is a sustained improvement in confidence towards the global economy. Overall global risk appetite is liable to be slightly weaker during the third quarter and this should provide important yen protection. The currency has also proved to be broadly resilient over the past few weeks which suggests underlying selling should be contained.

Rallies in the Japanese currency quickly attracted selling pressure, although the yen still proved to be generally resilient as global equity retreated over the second half of the week and confidence faltered.

The headline quarterly Tankan index of business confidence improved to -48 from the record low of -58 recorded previously, which was a weaker improvement than expected. Companies were also more pessimistic over investment plans with capital spending expected to decline by 9.4% in the current fiscal year.

The other Japanese economic data was broadly in line with market expectations as unemployment rose to 5.2% for May from 5.0% while the jobs/applicants ratio was at a record low for the month. The data maintained fears over the outlook for consumer spending and, although the household spending data was firmer over the month, cash earnings continued to decline which suggested that sales will be very fragile.

The manufacturing PMI index rose to a 1-year high, although it was still below the 50.0 level. There was a further small increase in the Chinese PMI releases for June which helped stabilise risk appetite, at least temporarily. The Japanese political situation was watched closely with further speculation that an election while Tamaki was appointed as new currency diplomat.

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The most recent economic data has suggested that the improvement in conditions could be stalling as high debt levels undermine the outlook for consumer and business spending. Confidence should still be slightly stronger in the short-term given stabilisation in the housing sector. The overall risks suggest that this confidence will tend to falter more seriously during the third quarter and this will expose Sterling to renewed fears over the severe debt outlook. Overall, Sterling is likely to have a weaker tone over the next few weeks.
 
Sterling pushed to 8-month highs against the dollar in the first half of the week with a peak above 1.67 against the dollar, but failed to sustain the gains. There were negative press reports on the UK debt position while data releases were mixed. The UK currency was weaker against the Euro with lows beyond 0.86.

The UK PMI index for manufacturing rose to 47.0 for June from 45.4 the previous month, maintaining the recent tone of improvement with output expanding. In contrast, the construction PMI index for June weakened to 44.5 from 45.9 previously, ending the run of improvements seen over the past few months. The services index edged lower to 51.6 from 51.7.

The Nationwide bank reported that UK house prices rose for the second successive month in June which helped boost sentiment. In contrast, the GDP data was sharply weaker than expected with a revised 2.4% decline for the first quarter from a 1.9% estimate previously, the weakest performance for 50 years.

Business investment also fell sharply by 7.6% for the quarter, reinforcing the downward pressure on capital spending. The current account data was also weaker than expected with a GBP8.5bn deficit for the first quarter.

Swiss franc:

The National Bank has continued to express discontent with franc gains and there is a strong probability that they will intervene again to weaken the currency if it threatens to advance, especially against the Euro. Although the effectiveness of intervention is liable to fade, the potential for aggressive franc selling will still act as a major barrier to franc appreciation, especially as the bank can intervene aggressively. The Swiss currency will still gain some support if global risk appetite fades and may well resist heavy selling pressure.

The dollar dipped to lows near 1.07 against the Swiss currency, but resisted a test of June lows and edged slightly higher over the second half of the week. The Euro registered net losses against the franc over the week.

The UBS consumption index dipped to 0.77 for June from a revised 0.91 the previous month which suggests that consumer demand is struggling to make much headway. The PMI index strengthened for the month to 41.9 from 39.8 previously which continued to suggest a weak and fragile recovery in conditions.

National Bank member Jordan again warned that the bank stood ready to intervene if necessary in the market if the franc threatened to make renewed gains.

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The Australian dollar pushed to highs above 0.81 against the US currency as commodity prices rallied. The currency was unable to sustain the gain and dipped lower to near 0.79 as equity markets reversed course before a tentative recovery.

The domestic data was mixed over the week. These was a second successive trade deficit while there was a stronger than expected report for retail sales with a 1.0% monthly increase while the services PMI data recorded expansion for the first time in 15 months. There was a sharper than expected decline in building approvals while the manufacturing PMI data was disappointing. 

Australian dollar sentiment should remain relatively robust in the short-term. Nevertheless, the overall risks suggest the threat of depreciation over the next few weeks, especially if global economic fears increase again.

Canadian dollar:

The Canadian dollar found support beyond the 1.1650 level against the US currency, but struggled to sustain any gains as sentiment remained generally weaker.  The GDP data was in line with expectations with a further 0.1% contraction for April.

The Canadian dollar was still influenced strongly by degrees of risk appetite and trends in commodity prices. Crude prices pushed sharply higher on Tuesday before retreating equally sharply to the US$66 p/b region which unsettled the currency.

The overall risks suggest a slightly weaker Canadian dollar trend although short-term losses should be limited from current levels

Indian rupee:

The rupee secured net gains and pushed to a two-week high around 47.75 against the dollar at one stage, although overall market moves were still tentative and it retreated back through 48 on Friday as the US currency recovered ground.

Month-end demand for the dollar eased during the week which helped lessen any potential selling pressure on the currency. There was still a lack of conviction over market moves and there was further caution ahead of next week’s budget presentation

The rupee will continue to be influenced strongly by trends in international risk appetite. There looks to be little scope for strong rupee gains in the near term. 

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The Hong Kong dollar has continued to trade near the 7.75 band limit. The HKMA has injected further liquidity into the market to prevent the band limit being breached.

There was a market holiday on Wednesday and trading ranges were generally very narrow over the week. There was still evidence of firm net capital inflows.

The Hong Kong dollar is likely to maintain a firm tone in the short-term, especially with the US currency still finding it difficult to secure strong support.   

Chinese yuan:

The yuan was again confined to generally narrow ranges over the week as the central bank maintained tight control of the spot market. The bank appeared to encourage  weaker tone and it settled near 6.8325

The Chinese PMI indices again edged higher over the month. There was still some degree of caution with fears that the gains could stall while further data releases were waited. Officials were also generally cautious over the outlook

The issue of reserve management policies remained very important with some evidence of conflict between separate elements of the Chinese government

The central bank will maintain its policy of yuan stability in the short-term and will continue to resist more than limited spot moves. There will still be expectations of medium-term currency gains, especially given pressure for reserves diversification.