Currency markets continue to exhibit strong risk off preference in today's trading, as the Japanese yen and US dollar gained against their higher-yielding rivals. Those currencies that are most tied to cyclical growth fluctuations - AUD, NZD, CAD - suffered as traders and investors fretted about the possibility of another global recession.

The outlook from the Federal Reserve - that the committee sees significant downside risks the US economy - added to a sense of gloom in US markets which were sold off sharply yesterday.

In Asia and in Europe we saw equities follow this pattern, being sold off as well, not only as a response to the Fed statement, but also as we had weak reports from China and Europe.

Manufacturing data from HSBC showing a third straight month of contraction in the Chinese manufacturing sector.

From Bloomberg: The Australian dollar dropped below parity with its U.S. counterpart for the first time since Aug. 9 after an index from HSBC Holdings Plc and Markit Economics predicted China's manufacturing will shrink for a third month in September. China is Australia's largest trading partner.

China is going to have an impact on sentiment towards the Aussie because the Aussie is seen as a freely tradable proxy for the growth profile in, particularly, China because of its resource need, said Tim Riddell, Singapore-based head of global markets research for Asia at Australia & New Zealand Banking Group Ltd.

The Australian dollar as mentioned hit parity against the US dollar, while other commodity currencies such as the New Zealand kiwi and Canadian dollar also weakened amid the prospect of poor global growth which would pressure commodity prices which the countries rely on for part of their growth.

In Europe, a preliminary report showed us that both the services and manufacturing sectors contracted in September - the first time that's happened since July 2009. This again raises the specter of a recession in Europe.

From Bloomberg: Euro-area services and manufacturing output shrank for the first time in more than two years in September as the region's worsening debt crisis added to concerns that the economy could slide back into a recession.

Today's figures make grim reading and raise the specter of a renewed economic downturn, said Martin van Vliet, an economist at ING Groep NV in Amsterdam. With ongoing fiscal austerity and political leaders still way behind the curve in terms of resolving the debt crisis, we cannot dismiss the risk of a full-blown recession.

Equities in Europe slid sharply with major indexes in the UK France and Germany off between 4% and 4.8%. Here is a quick snapshot of the S&P500 (top left), the FTSE 100 (top right), DAX 30 (bottom left) and CAC40 (bottom right).

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As a result of this sharp decline in equities we are seeing a flight from the euro, pound, and commodity currencies towards US dollars, Japanese yen, as well as Swiss francs.

The moves today and yesterday have pushed several currency pairs outside of recent ranges and will set up for important shifts in momentum and sentiment going forward into the 4th quarter.

The fundamental docket is pretty sparse in the US, and equities will likely be responding to the very sharp sell-offs we've seen in Asia and Europe. S&P 500 futures were down 2.2% at around 7:15 AM ET.

Risk off therefore is the name of the game, and the Fed's action - Operation Twist - does not seem to be enough to alter the trajectory of the US economy and thereby the global recovery. It will take coordinated action by governments or further monetary stimulus from central banks to try and change this trajectory.

In the meantime we'll have to see how far the risk off theme is advanced in the currency markets and whether we have any type of stabilization as we move through today's session and Friday's session.

Nick Nasad
Chief Market Analyst
FXTimes