Strong demand for USDs swept the board in early European hours.  The EUR, GBP, AUD, NZD and the CAD all fell sharply vs the greenback before a more consolidative tone set in mid-morning.  The trigger for the move was the shockingly good US payrolls data last Friday; the incentive was provided by a glut of short USD positioned.  The market will be looking to Bernanke's speech this evening to provide some clarity on whether the December payrolls release really has brought forward the first rate hike of the cycle and whether the USD could be close to turning around.  

While the optimists will be looking at last week's US payrolls release as suggesting that the global economic outlook during 2010 will be far more robust that previously thought, the pessimists will still be worried that US consumption will still be under pressure from what is still a high unemployment rate (10.0%).  While high unemployment and low inflation pressures suggest that it still seems unlikely that the Fed will be hiking rates quickly, there is less reason to expect that the Fed will avoid raising rates until 2011.  What will be key for the USD is if the fear of the first Fed rate hike has become sufficiently tangible for the USD to cast off its role as funding currency and break its negative correlation with risk; Bernanke's remarks this evening could be key.

Although expectations for growth in 2010 have been bolstered by last week's US  data, there are few signs of risk appetite today with the market coming to terms with the fact that the run of cheap financing from the Fed could soon be drawing to a close.  Stock markets are mixed to lower and gold has suffered a significant fall back below USD1150 /troy ounce.  The Nikkei 225 is the exception, however, with the index enthused by the Japanese government's stimulus package in addition to the US data.  The JPY has performed better vs the USD today following talk of repatriation.  

The morning has brought a pledge from UK PM Brown of GBP 12 bln in spending cuts.  This precedes Wednesday's pre-budget review which provides the government with an opportunity to lay out its wares ahead of the spring general election.  The weekend press has raised the prospect of a 3 yr cash freeze on spending while Chancellor Darling himself brought up the prospect of a levy on bankers' bonuses.  EUR/GBP has pushed up to the GBP0.9055 area this morning.   Strong action on the deficit is necessary for an eventual sterling recovery.  However, weak growth is likely to be a by-product at least through 2010 which could keep interest rates on hold for a prolonged period.

Aside from Bernanke's speech, US consumer credit data and Canadian building permits are due.  

Jane Foley
Research Director
+44 207 398 5024