Weekly Forex Currency Review 12-06-2009

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The dollar will continue to be unsettled by speculation over medium-term reserve diversification away from the US currency, especially given the vast amount of government debt issuance.  The implications of higher yields will be mixed as there will be an increase in capital inflows which should help contain selling pressure on the currency, especially with major doubts over the Euro-zone structural vulnerabilities.         

Key events for the forthcoming week

Dollar: 

Underlying confidence in the US fundamentals will remain fragile with continuing fears over the threat of medium-term diversification away from the US dollar, especially by Asian central banks.  There will, however, be some support from higher bond yields if inflation fears can be kept under control.  Defensive demand for the US currency will still tend to be weaker in the near term with a flow of funds into emerging assets also a significant factor in lessening the potential for support. International confidence could still falter significantly during the third quarter with renewed dollar support.

The markets struggled for direction for much of the week with currencies quickly attracting selling pressure on rallies. Overall dollar sentiment was still generally fragile which certainly limited support with only fragile support near recent lows.

As far as the US data is concerned, both headline and core retail sales rose 0.5% in May after revised 0.2% declines the previous month. Much of the increase did, however, reflect higher prices, notably for energy, rather than any spending increase. The rise in building material sales did have some positive impact on confidence.

Initial jobless claims fell to 601,000 in the latest week, although the number of continuing claims rose sharply to a fresh high of 6.82mn, dampening the optimism sparked by last week’s decline in continuing claims.

Markets were still struggling for direction with conflicting analysis over the impact of higher Treasury bond yields as there were mixed auction results.

The US trade deficit widened to US$29.2bn for April from a revised US$28.5bn the previous month. Exports fell by a further 2.3% in April to give a 21.8% annual decline for shipments while imports fell by 30.4%. Although the data is for two months ago, the data reinforced fears over the slump in trade values and this curbed the underlying improvement in risk appetite.

The Beige Book remained generally downbeat over prospects, although 5 of the 12 Fed districts reported that the pace of deterioration is slowing.

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The Euro will gain some support if underlying global risk appetite remains higher, especially if there is further evidence of global economic recovery. There are still important vulnerabilities and structural uncertainties which will limit the potential for currency gains. The situation within the Baltic states will continue to be watched very closely and any substantial devaluations would tend to be a significant negative Euro factor on renewed fears over the banking sector.

The Euro registered another mixed performance over the week. There was a generally firm tone, but it struggled to make much headway with some downward pressure on individual crosses, notably against Sterling.

The currency gained initial support from comments from Russian official comments that it would buy IMF bonds and diversify away from dollar.  French officials also stated that is was unlikely that exchange rates would be discussed at the weekend G8 meetings which dampened expectations of official resistance to Euro gains and this pushed the currency higher.

In contrast, there was downward pressure on the currency following a second downgrading of the Irish credit rating by Standard & Poor’s which reinforced unease over the Euro-zone debt situation and risk of further internal stresses.

The Euro-zone data recorded an improvement in business confidence and no change for German factory orders which did not have a major impact. German exports declined in the latest data while industrial production fell by a much sharper than expected 1.9% for April.

The immediate fears surrounding a currency devaluation in Latvia eased following remarks from the government that a devaluation was out of the question. This, in turn, eased fears over the European banking sector and helped support the Euro, but there was still a high degree of uncertainty which limited any positive impact.

Yen:  

The Japanese currency moves will continue to be influenced strongly by degrees of risk appetite and the yen will lose ground if there is a sustained improvement in confidence with net capital outflows into higher-yielding assets. There will be unease over the US and Euro-zone fundamentals which will tend to provide some important yen protection. Japanese funds are still liable to be generally cautious over risk, especially given the underlying debt fears.

The dollar and yen were confined to generally narrow ranges during the week with both currencies tending to lose support in tandem as international risk appetite improved. The dollar struggled to move much above the 98 region.

The Nikkei index was able to reach an 8-month high on firm international sentiment and the yen remained vulnerable to some underlying capital outflows. The latest capital account data continued to record net outflows from Japan as domestic investors looked to push funds into high-yield assets, especially with the Australian employment data was stronger than expected.

Domestically, the revised GDP data recorded a 3.8% contraction for the first quarter compared with the 4.0% original estimate which maintained the mood of cautious optimism over domestic and international trends.

The other economic data was weaker than expected with a 5.4% decline in core machinery orders for April while wholesale prices declined by 5.4%. The Bank of Japan maintained a generally optimistic tone in comments with expectations of a recovery during the second half of the year. The data will, however, reinforced expectations that any improvement in the industrial sector will be slow at best.

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The UK currency will continue to draw near-term support from an improvement in economic conditions. The impact will tend to be magnified initially by speculation that the UK economy will improve at a faster pace compared with Europe.  Political stresses have eased, at least for now, although they could return very quickly. Degrees of risk appetite will remain very important and Sterling will gain support while confidence in the global economy remains stronger. Sentiments will facer a tougher examination during the third quarter.    

Sterling dipped against major currencies early in the week, but then secured renewed gains as underlying sentiment remained strong. The currency pushed back to challenge the 1.66 region against the dollar before hitting tough resistance again and hit 2009 highs against the Euro near 0.85.

There was a small reported increase in inflation expectations according to the latest Bank of England survey. Although this did not have a major impact, there was a small increase in bond yields which helped underpin the currency.

Underlying confidence in the economy remains stronger following the recent run of favourable data. Although the underlying fundamentals are still weak there has been additional protection from weak performances elsewhere in the global economy. In particular, doubts over the Euro-zone outlook provided Sterling support

The latest economic data recorded a small increase in April manufacturing production which was the first rise for 14 months. The NIESR institute recorded a 0.9% GDP decline in the three months to May, but stated that the economy could register growth for the second quarter as a whole which reinforced optimism over near-term trends.

The RICS registered that less than half of property surveyors reported lower house prices in May. The latest BRC retail sales survey registered an annual decline, although the series is volatile and markets tended to concentrate on the housing data.

Swiss franc:

The economy is likely to stage only a fragile recovery. The trends in Baltic states will be watched closely and the franc will tend to gain support if there is any renewed fears over regional devaluations.  The National Bank policies will be watched closely with strong expectations that the bank will use the forthcoming monetary policy meeting to re-assert its opposition to Swiss currency gains. In this environment, it will be difficult for the franc to sustain gains.  

The dollar was unable to make a serious attempt at challenging important resistance levels close to the 1.10 level against the Swiss currency and weakened to lows around 1.0650 before rallying back to above the 1.07 level on Friday. The franc had a firm tone against the Euro with a test of Euro support below 1.51.

The franc gained some degree of support from fears over the situation in the Baltic States as structural Euro doubts persisted. The impact was offset by generally firm international risk appetite.

The Swiss seasonally-adjusted unemployment rate rose to a three-year high of 3.5% according to the latest data, although this was in line with market expectations

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The Australian dollar was subjected to relatively volatile trading with underlying strength sustained. After a sharp retreat to below 0.79 against the US dollar, the Australian currency rallied powerfully back to challenge resistance levels above 0.82.

Underlying risk appetite was also still firm and commodity price high which continued to provide underlying support for the currency.

The domestic economic data was supportive with an improvement in business confidence. There was also stronger than expected labour-market report as employment fell by less than 2,000 for May compared with expectations of a much larger decline which maintained confidence in the economy. 

It will be difficult for the currency to sustain gains much beyond current levels even though the Australian dollar should retain a generally firm tone in the near term.

Canadian dollar:

The Canadian dollar found support weaker than the 1.12 level against the US currency while it was unable to sustain gains beyond the 1.10 level. The underlying tone was one of consolidation following recent sharp gains.

Underlying sentiment was still firm, primarily due to the impact of higher commodity prices and robust risk appetite. The economic data recorded a small trade deficit for April, but international factors were generally dominant.

Given optimism over the global economy, the Canadian currency should be able to retain a generally firm tone, although there is the threat of a further correction weaker.

Indian rupee:

The rupee had a slightly weaker tone over the week, although losses were limited as underlying confidence was still firm and the rupee consolidated around the 47.50 level against the US currency.  

Underlying risk appetite was still firm which provided underlying support to the currency on optimism over capital inflows. The currency was hampered by high oil prices as importers increased their dollar purchases.

The latest industrial data was stronger than expected with a small annual increase in the year to May which supported confidence, although the impact was limited.

The rupee will continue to gain support from underlying optimism over capital inflows and hopes for a global economy. It will still be difficult to make strong headway unless there is a rapid decline in the US currency.  

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The Hong Kong dollar maintained a firm tone over the current week and was edging back towards the 7.75 upper limits for the currency band. There was no evidence of aggressive intervention to restrain the currency.

Overall risk appetite was still strong and the currency was supported by optimism over the regional and global economies.  Underlying confidence in the US currency was also generally subdued.

The Hong Kong dollar is likely to maintain a firm tone in the short-term with optimism over the regional economy still important in providing underlying support.    

Chinese Yuan:

The Yuan was trapped within narrow ranges over the week, consolidating near 6.833 against the dollar as the central bank continued to stifle significant currency moves.

The economic data had a mixed impact and was more important in driving global currency moves rather than the Yuan. The industrial production was stronger than expected with a 8.9% increase in the year to May.

The trade data was slightly worse than expected as exports declined by 26.4% in the year while growth in M2 money supply growth also slowed.

The central bank will maintain its policy of Yuan containment in the short-term and will continue to resist more than limited currency moves. There will still be expectations of medium-term currency gains, especially given dollar vulnerability.