Weekly Forex Currency Review 09-04-2009

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Overall strategy: 

Markets are liable to remain trapped between pessimism and optimism in the short-term. Hopes that the global economy can start to stabilise will be offset by extremely weak employment and corporate earnings trends. Overall, it will be difficult to trigger a sustained improvement in risk appetite which will stem aggressive demand for risk assets even if a destabilising loss of confidence is avoided at this stage.  

Key events for the forthcoming week

Dollar:

There has been little in the way of major economic data over the past week and, in this environment, there has been some cautious optimism that the US economy could be stabilising. The employment fears will certainly continue and there has also been renewed doubts over the banking sector while the Federal Reserve has maintained a pessimistic stance towards the economy. There will still be scope for some defensive dollar demand if risk appetite deteriorates again, although the US currency is not in a good position to gain strong support.
 
The dollar was trapped in narrower ranges over the week with a lack of fresh incentives. Overall risk appetite was slightly weaker which triggered some defensive demand, but the dollar was unable to gain firm buying support as pessimism failed to dominate the markets and it settled near 1.33 against the Euro.

Dollar Libor rates edged lower over the week and this tended to curb US currency demand to some extent, although the impact was measured.

The Federal Reserve announced the creation of new long-term swap facilities with the other major central banks with the Fed able to draw on these lines for Euros, Sterling, yen and Swiss francs. There will be optimism that the central banks will be better placed to combat any serious currency stability which supported the dollar slightly.

There were no major US data releases over the week. The latest IBD consumer confidence data recorded a rise in March to the highest level since November 2008 which continues to suggest that the pace of economic contraction is at least slowing.

The Federal Reserve minutes from March’s meeting recorded that members were divided on the Treasury buying plan announced at the meting. The FOMC was, however, very downbeat in its assessment of economic conditions and these fears persuaded the members that aggressive action was justified. The minutes did not spur greater confidence in the US or global economy.

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Unease over the Euro-zone economy will continue in the short-term, especially with the industrial sector still deteriorating. The emergency Irish budget will maintain fears over the peripheral countries and will also tend to maintain upward pressure on bond spreads which will tend to increase tensions. With markets also nervous over the possibility of ECB action to stem significant currency gains, the Euro will find it difficult to make much headway.
       
The Euro had a generally softer tone over the week due to a lack of confidence in the economy, although there was still evidence of buying support at lower levels with some institutional support. Overall confidence in the Euro-zone economy was generally weaker which curbed any support on nominal yield grounds.

The Sentix business confidence index strengthened more than expected to -35.3 in March from -42.7 the previous month, but there was a larger than expected 0.6% decline in Euro-zone retail sales for February. ECB member Bini-Smaghi suggested that intervention to influence currency values could be warranted, but that using currency rates to gain advantage could fuel protectionism. The comments may indicate that the ECB is becoming more uneasy over the risk of other major economies trying to boost competitiveness through deliberate currency depreciation. The comments also suggested that the ECB is on alert over global exchange rate policies.

The Irish government was forced into an additional budget to tackle the severe fiscal deterioration as the economy contracts rapidly and this reinforced the fears surrounding the weaker Euro-zone members. The headline German trade surplus was higher than expected, but there was a further decline in exports, the fifth successive monthly fall. German factory orders also continued to decline sharply for February which reinforced fears over the industrial sector and there was renewed unease over Eastern European economies.

Yen:  

Overall confidence in the Japanese economy will remain very weak in the short-term while the Bank of Japan will be forced to maintain a very aggressive monetary policy. The underlying capital account position is liable to remain weaker as Japanese investors look to boost yields. Risk appetite is still likely to prove very fragile and this will limit the scope for aggressive yen selling. A key feature is liable to be yen selling on any significant recoveries.

The Japanese yen weakened to six-month lows near 101.50 against the dollar and eight-month low against the Euro near 137.50 early in the week. Improved risk appetite triggered increased selling with evidence of a cautious return to carry trades. The Japanese currency secured some respite over the second half of the week as markets turned more cautious with the dollar consolidating around the 100 level.

The Bank of Japan left interest rates on hold at 0.10% following the latest policy meeting. The bank also announced that it would increase the range of collateral that would be accepted to boost market liquidity in a further attempt to ease credit strains.

The Nikkei index strengthened to a three-month high on Monday while Asian markets generally also rose strongly on confidence that the global economy could be stabilising. Japanese markets switched to some extent into a different phase as weakness in the yen helped to support the stock market on hopes that export earnings will improve. This, in turn, boosted risk appetite which also lessened near-term demand for the Japanese currency. 

The North Korean missile launch did not have a significant yen impact while the domestic leading indicators decline also had limited impact. The Japanese current account returned to surplus for February, although there was still an annual reduction of over 50%. The machinery orders data was stronger than expected with a 1.4% increase for February, although overall industrial confidence remained very fragile

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The most recent UK indicators have continued to offer some grounds for optimism that the rate of economic contraction is slowing and the data has also held relatively firm in comparison with the Euro-zone.  The budget and debt fears will be increasingly important over the next few weeks and there will be further unease over the fiscal situation which will limit Sterling support. The currency trends will also continue to be influenced strongly by degrees of risk appetite with Sterling much more vulnerable to selling pressure if global confidence deteriorates again.

Sterling maintained a generally firmer tone against major currencies over the week. It pushed to highs near 1.50 against the dollar before retreating towards 1.4650 after hitting tough resistance near this level.  The UK currency also hit tough resistance beyond 0.90 against the Euro.

UK manufacturing output fell by 0.9% for February which was slightly better than expected and triggered a small improvement in confidence as it suggested that the rate of decline was easing. The impact was still limited, especially as the manufacturing decline was still the worst for 40 years.

Consumer confidence edged down according to the latest Nationwide data while the NIESR estimated that GDP had fallen 1.5% during the first quarter, reinforcing expectations that the official data would show a very sharp decline. The headline trade deficit fell to GBP7.3bn for February from GBP7.8bn the previous month as exports recorded a monthly improvement.

Underlying fears over government debt continued to be an important factor, especially with the UK budget due for release in two weeks time. The emergency Irish budget tended to increase fears that the UK fiscal situation will also deteriorate further.

Swiss franc:

The Swiss economy will remain in difficulties in the short-term with particular fears surrounding the export sector. The franc will continue to gain some support when stock markets confidence deteriorates. The National Bank is likely to maintain a hard-line currency policy stance and there is a strong probability that they will intervene again to stem franc gains.  Given the intervention threat, the Swiss currency is unlikely to make strong headway.

The Swiss currency resisted selling pressure against the Euro during the week and consolidated near the 1.52 region. The franc traded within narrower ranges against the dollar as cross-related moves cushioned dollar fluctuations with the dollar edging firmer to tackle resistance above the 1.15 region.

The franc gained some degree of support from a more cautious attitude towards risk during the week, although the impact was measured.

The National Bank announced that Philip Hildebrand would replace Roth as Chairman from the end of 2009. Hildebrand has been vocal in his protests against Swiss franc strength over the past month and his appointment reinforced expectations that opposition to currency strength will continue over the remainder of 2009. Intervention fears continued to limit franc support.

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The Australian currency was again influenced strongly by degrees of risk appetite in global markets. As confidence improved, the Australian dollar strengthened to a challenge early-2009 highs above 0.72 against the US dollar before correcting weaker.

The Reserve Bank cut interest rates by a further 0.25% to 3.00% at the latest policy meeting. The RBA statement suggested that there was only limited scope for further interest rate cuts.

The home - loans data was weaker than expected with only a marginal increase for February while consumer confidence recovered according to the latest data. The labour-market data was weaker than expected as unemployment increased sharply to 5.7% in March from 5.2% while employment fell 34,700 over the month.

The Australian dollar should be able to maintain a firm tone in the near term, although it will be increasingly difficult to make strong headway from current levels.

Canadian dollar:

The Canadian dollar was again unable to strengthen through the 1.22 region against the US currency during the week while there was support on dips to beyond 1.25. There was no decisive trend in risk appetite with a slightly more cautious mood limiting currency support.

The latest PMI release was weaker than expected for March, but there was an unexpected strengthening in housing starts which provided some degree of relief over domestic economic conditions and underpinned sentiment. 

Canadian dollar volatility is liable to remain higher in the short-term and there appears scope for only limited gains in the short-term even if risk appetite remains firmer.
 
Indian rupee:

The rupee strengthened to a six-week high just beyond the 50.0 level against the US dollar early in the week and again on Friday, but was unable to hold all the gains.

The currency continued to gain initial support from an improvement in risk appetite and expectations of capital inflows. The currency was unable to sustain its best levels as markets turned more cautious. The rupee was also hampered by increased importer demand for dollars.

The rupee will gain further underlying support if risk appetite remains stronger. It will still be difficult for the currency to make strong gains as domestic and international confidence is liable to remain very fragile. 

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The Hong Kong dollar continued to trade near the 7.75 strongest limit of the currency band against the US dollar despite substantial intervention by the HKMA last week.

The local currency continued to draw initial support from a robust performance in the local stock market with the Hang Seng index strengthening to a six-month high.

As global markets turned more cautious, the currency had a slightly softer tone, although it did not deviate far from the stronger limit.

The Hong Kong dollar moves will continue to be influenced strongly by trends in risk appetite. The currency is likely to maintain a relatively firm tone in the short-term.  

Chinese yuan:

The yuan has remained trapped in narrow ranges near 6.8350 against the dollar with the central bank continuing to block any significant moves.

There was a lull in activity over the week with markets awaiting the next batch of economic data for evidence on the economic trends.

There were fears over another weak trade report with a downturn in exports and imports, but there was greater optimism that the money supply and lending data would record robust gains.

There were no major developments in the recent discussion surrounding an increased use of the SDR or other alternatives to the US dollar as a reserve currency.

The yuan will be in a stronger position to gain ground if the Chinese authorities are more confident over the domestic and international growth outlook. Caution is still liable to prevail in the short-term given underlying economic vulnerabilities.