Daily currency analysis
The dollar was trapped in narrower ranges on Friday with the US currency able to resist fresh lows following the sharp decline seen in US trading on Thursday. The dollar was, however, unable to make a significant challenge on the 1.4750 level and ended around 1.4775 after the Euro failed on several occasions to push above 1.4820. The Euro was still being supported by the firm ECB press conference on Thursday as yield spreads moved in the Euro’s favour.
There was further speculation that the Federal Reserve would cut interest rates aggressively at the end of January and there were also some rumours that there would be an cut ahead of the planned meeting which maintained dollar vulnerability.
Fed Governor Mishkin stated that the Fed must be prepared to act flexibly and that there were downside risk to employment and growth. He also stated that inflation expectations appeared well anchored. Mishkin’s comments will certainly maintain market expectations of a rate cut, although there may be some doubt whether the Fed will be prepared to push for 0.50%.
There were several rumours and deals surrounding the US financial sector during Friday. Rumours of US$15bn of losses at Merrill Lynch unsettled the dollar, but this was countered by news that Countrywide Financial had been acquired by Bank of America.
The US trade deficit rose to US$63.1bn in November from US$57.8bn the previous month as imports rose firmly over the month while exports rose slightly. Oil imports rose again over the month as prices increased. The deficit for the first 11 months of 2007 was still below 2006 levels.
The dollar weakened to below 109.0 in early Europe on Friday as credit fears increased. The US currency was unable to secure any significant recovery, remaining trapped just below 109.0 in US trade as Wall Street struggled.
Confidence in Japan was undermined on Friday by cautious remarks from Bank of Japan Governor Fukui who stated that the pace of growth was slowing. There was some renewed speculation that the central bank could consider a cut in interest rates, especially as bank lending has slowed.
The yen was still able to secure net gains against the US currency as credit-related fears increased. There was speculation that Merrill Lynch would report bigger than expected losses while the Nikkei index also weakened to a 19-month low. Overall risk aversion remained generally high which discouraged aggressive yen selling.
Sterling remained generally on the defensive during Friday, although it did recover from its worst levels. Sterling found support below 1.95 against the dollar, but failed to sustain a move above 1.96 while the UK currency remained near record lows against the Euro.
Overall sentiment towards the UK economy and currency remained weak with confidence further depressed by evidence of weaker property development.
There was a 0.1% drop in industrial production for November with manufacturing output also dropping by 0.1%. The data will reinforce negative sentiment towards the economy, especially as the UK will need a firmer industrial sector to help offset a downturn in consumer spending. Next week’s growth and inflation data will be watched very closely for further evidence on the speed of economic slowdown.
The Swiss currency remained robust on Friday, fluctuating around 1.10 against the US currency. The franc also tested resistance levels below 1.63 against the Euro.
Financial markets were unsettled by rumours of losses and difficult trading conditions. In an uncertain environment, there was further demand for defensive currencies which continued to support the franc.
Expectations of lower US interest rates should still provide some support to carry trades which will curb Swiss currency buying from current levels.
Following strong gains in US trading on Thursday, the Australian currency remained firm on Friday, although there was selling interest above the 0.8950 level with a move back towards 0.8915 in US trading.
Given speculation over a further aggressive Fed interest rate cut, there will be increased Australian dollar yield support in the short term, especially as there are still some expectations that the Reserve Bank of Australia will increase interest rates in February. There are still important risks surrounding the global growth outlook and the Australian economy is also liable to suffer over the next few months which will limit currency support.