The Stories in the Currency Market
THE STORIES IN THE CURRENCY MARKET
* US DOLLAR: CONCERNS MOUNT ABOUT NFP AND GDP
* GBP/USD: 50BP RATE CUT EXPECTED
* EUR/USD: TRICHET WORRIED ABOUT THE EZ ECONOMY
* USD/CAD: OIL PRICES SEE LARGEST DROP IN 7 YEARS
* AUD/USD: RETAIL SALES REBOUND
* NZD/USD: GOLD PRICES PLUNGE
* USD/JPY: RALLY COMES TO A SCREECHING HALT
EXPECTATIONS FOR UPCOMING FED MEETINGS
** PERCENTAGES MAY NOT ADD UP TO 100% BECAUSE OF THE PROBABILITY OF LARGER OR SMALLER MOVES BEYOND THOSE SHOWN ON THIS TABLE
US DOLLAR: CONCERNS MOUNT ABOUT NFP AND GDP
Concerns about the US economy are growing as the Dow Jones Industrial Average erases all of its year to date gains, taking the US dollar down with it. The rally that we have seen in the first few days of trading will be difficult to sustain with all of the weak economic data that we expect in this month. Although the US government has thrown a lot of monetary and fiscal stimulus at the US economy, we may not see the fruits of their labor until the second quarter at the earliest. There is a major risk of a sharp drop in this month's non-farm payrolls, retail sales and fourth quarter GDP reports and only after we have seen the last of depression like numbers can we begin to see a meaningful recovery in the US dollar.
ADP Signals Big Trouble for NFP
This is a big week in the currency market with non-farm payrolls due for release on Friday. The leading indicators for the pivotal labor market report are coming in and the latest report suggests that in the last 2 months of the year, more than 1 million Americans may have lost their jobs. According to the ADP private sector employment report, 693k jobs were lost in the private sector last month. This was much weaker than the market's -493k forecast and suggests that non-farm payrolls could have dropped by more than 600k in the month of December. Layoffs also rose 274.5 percent according to the Challenger report with the biggest declines seen in the financial sector. Unfortunately big job losses will probably continue with Alcoa and Intel announcing more layoffs. The only silver lining is the rebound in the employment component of the service sector ISM report, which tends to have a very strong correlation with the non-farm payrolls report. With that in mind, we believe that job losses last month will be closer to 500k than 700k. Either way, both numbers spell big trouble for the US labor market. Q4 will be one of the worst quarters for non-farm payrolls that this generation has ever seen which is why the US dollar is weak and may remain weak going into the NFP report.
Forecasts for GDP, Unemployment and Deficit
Adding pressure to the dollar today were the forecasts for GDP and the budget deficit from the Chamber of Commerce and the Congressional Budget Office (CBO). Last week we warned that fourth quarter GDP could be very weak given the sharp decline in the retail sales and the increase in the trade deficit. The Chamber of Commerce predicts that GDP could fall by as much as 5 percent in the last quarter of 2008 and by another 3 percent in the first quarter of 2009. They also expect the unemployment rate to top 8.5 percent. We also believe that GDP will confirm the recessionary conditions in the US economy and that unemployment will rise sharply, which is why non-farm payrolls may only compound the problems that the US dollar faces this month. As for the budget, the CBO expects the deficit to hit $1.186 trillion this fiscal year. For sovereign wealth funds in particular, the deteriorating US balance sheet will be another reason why a run on the dollar remains a risk in 2009.
GBP/USD: 50BP RATE CUT EXPECTED
The Bank of England is expected to cut interest rates by 50bp on Thursday to 1.50 percent, an all time record low, yet the British pound is rallying. This bizarre price action stems from the fact that pound traders are looking beyond the rate cut and onto the BoE's aggressive efforts to revive the struggling economy. Furthermore a recent uptick in economic data suggests that a 50bp rate cut may not be the only option for the central bank. The BoE could also entertain the notion of a smaller quarter point rate cut following the improvements in retail sales, manufacturing and service sector PMI. Inflation also remains above the central bank's target even though they believe that price pressures will fall sharply in the coming months. Since 2008, the BoE has already cut interest rates by 350bp. As long as the central bank does not surprise the market with a 75bp rate cut, regardless of how much they ease, the British pound will remain the fifth lowest yielding currency in the developed world. Although interest rates have never fallen below 2 percent in the history of the BoE, they will be forced to make this historic move as there is no convincing evidence that a rebound is near. The undeniable willingness of the BoE to respond diligently to market troubles leads us to assume that a rate cut is all but certain. Expect a lot of volatility following the BoE rate decision especially since the monetary policy statement could provide clues to how much further the central bank may lower interest rates. Given that Chancellor Darling warned that the recession was from over, we could see UK interest rates hit 1.00 percent.
EUR/USD: TRICHET WORRIED ABOUT THE EZ ECONOMY
After selling off for 3 straight trading days, the Euro rebounded against the US dollar despite weaker economic data. German unemployment rose 18k last month, the first increase since February 2006. Germany has not been immune to the global slowdown and we are finally seeing the downturn that has long been expected. Retail sales have already declined and we expect the job losses to weigh on consumer spending going forward. Producer prices plunged for the Eurozone as a whole which is not surprising given the sharp drop in oil prices. It seems that Trichet is finally acknowledging the problems in the Eurozone economy. In a magazine interview he said that 'It's clear that we have had a significant deterioration of the real economy. The ECB and the national central banks' staff projections mention a range of zero to minus one per cent as the average for growth next year.' However with that in mind, he still believes that anchoring inflation expectations should be their top priority especially since deflation is not a threat. The case for a January rate cut is growing but based upon Trichet's comments, it is not a done deal.
USD/CAD: OIL PRICES SEE LARGEST DROP IN 7 YEARS
The only currencies that managed to weaken more than the US dollar are the Canadian, Australian and New Zealand dollars. Their sell-off is tied directly to the move in oil and gold prices. Oil dropped more than 12 percent today, the largest decline in 7 years. The sharp plunge was driven by a report showing a higher than expected increase in supplies. Oil had been able to stage strong rallies for the last few weeks after hitting a low of $35 a barrel. Gold is extending its declines again, falling 2.5 percent. The move in the yellow metal overshadowed the improvement in Australian retail sales. Consumer spending rose 0.4 percent in the month December thanks to higher food consumption. The Australian construction sector PMI, trade deficit and building approvals are due for release this evening. The improvement in the New Zealand trade balance yesterday suggests the potential for similar improvement in Australia. Finally Canada will be releasing the IVEY PMI report tomorrow. Given the drop in leading indicators, we do not expect Canada to report a rebound in manufacturing conditions.
USD/JPY: RALLY COMES TO A SCREECHING HALT
The yen is a net winner amid concerns for the US economy and tumbling energy prices. As a country that imports almost all of its oil needs, lower oil prices is a positive for the economy. The sharpest gains were seen against the Australian and New Zealand dollars. Although the recent strength of the Japanese Yen could cause Japan to be one of the worst performing countries in 2009, the Yen may still rally if US equities continue to slip. Furthermore, 2008 has been a brutal year for investors across the globe. Japanese carry traders have been hit particularly hard and for that reason we could see more repatriation by the Japanese heading into their fiscal year end which is in March. The Japanese government is also taking steps that may lead to more Yen strength. Earlier this week, they announced plans to scrap capital gains taxes for foreigners who take stakes in Japanese companies through investment funds. If approved, more foreign investment could lead to more yen strength.
EUR/USD: Currency in Play for Next 24 Hours
EUR/USD will be the currency pair in play for tomorrow. The Euro-zone is set to release a variety of important economic indicators. On schedule for tomorrow is the German Trade Balance and Current Account at 2:00 am ET or 7:00 GMT and Euro-Zone GDP and Unemployment rate at 5:00 am ET or 10:00 GMT.
The EUR/USD currently resides in the Bollinger band range-trading zone. The 1.3500 area seems highly significant as support for a number of factors. Besides the psychological nature of the level, there is the one-standard-deviation, and 50.0% retracement from December 12th highs to yesterdays is lying slightly above. Yesterday's price action failed after extending 280 pips below the support. Early retreats today were thwarted once again, and served as the base of a technical move higher. Resistance seems best defined by the 20-period exponential moving average. Prices failed today after advancing slightly above this 1.3700 resistance. The level is further defined since the 38.2% retracement from the aforementioned Fibonacci levels is lying slightly above. This is also where prices gapped lower on October 6th. A break of the several resistance levels lying above, could see the pair pushing beyond where the previous rally left off.