Weekly Forex Currency Review 19-03-2010

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The Euro-zone will find it difficult to avoid further scrutiny in the short-term with economic and political stresses still a very important market factor as fears surrounding Greece continue. Although confidence in the global economy may remain firm in the very short-term there are likely to be increased doubts over the sustainability of the rebound especially if credit conditions deteriorate again.             

Key events for the forthcoming week

Dollar:

The US economic data has continued to have a mixed tone, but there will be continuing expectations that the US economy will out-perform the Euro-zone over the next few months.  There is still little prospect of a near-term increase in interest rates, but bond-yield spreads should remain more in the dollar’s favour which will continue to provide underlying support for the currency. Markets will continue to monitor budget developments closely and dollar confidence could still prove to be very fragile, especially if there is any evidence of a renewed credit tightening and fresh housing downturn.

The dollar dipped to six-week lows on a trade-weighted basis in mid week before a securing a modest recovery as markets struggled for direction. The dollar continued to secure protection from a lack of confidence in Europe and strengthened back to the 1.3580 region on Friday.

The latest New York manufacturing PMI index edged slightly lower to 22.9 for March from 24.9 the previous month. This was still a historically firm report and the employment component also improved. Jobless claims edged lower to 457,000 in the latest week from 462,000 previously while the Philadelphia Fed survey rose to 18.9 for March from 17.6 which maintained some degree of optimism over the economy.

In contrast, the latest NAHB housing index dipped to 15 from 17 the previous month, maintaining the recent run of disappointing figures. Housing starts were in line with market expectations with a 5.9% to an annualised rate of 0.57mn.

Consumer prices were unchanged for February compared with expectations of a small increase for the month to give a 2.1% annual increase while there was a 0.1% increase in core prices which was in line with expectations.
 
As expected, the Federal Reserve left Fed funds interest rates at 0.0- 0.25% following the latest FOMC meeting. In the statement, the Fed also maintained the phrase that interest rates would be kept at exceptionally low levels for an extended period. There was a 9-1 vote for the second meeting in succession as Regional Fed Governor Hoenig dissented and called for the extended-period language to be dropped.

The Fed was slightly more optimistic in its assessment of the economy, but there was no increase in expectations of a near-term move on interest rates. During the US session on Thursday, there was speculation over a further near-term increase in the Fed’s discount rate which triggered a sharp Euro dip to below 1.36.

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Sentiment surrounding the Greek budget situation is likely to remain very fragile in the short-term, especially with persistent doubts whether there will actually be any fiscal support. A further increase in political divisions between Germany and other countries would also unsettle the Euro. There will still be unease over the economic outlook with doubts whether a sustainable recovery will be achievable. In this environment, it will be very difficult to secure a sustained improvement in Euro sentiment. 

Euro confidence  fluctuated over the week, in line with changing sentiment towards the Euro-zone debt position. The Euro was unable to sustain a recovery and was subjected to renewed selling later in the week.

EU Finance Ministers agreed an emergency loan-support scheme for Greece which helped underpin sentiment towards the Euro early in the week. There was also a statement from ratings agency Standard & Poor’s reaffirming Greece’s credit rating. Markets had been braced for a further cut in the rating and the announcement encouraged the trend of covering short Euro positions.

There were, however, renewed fears over the Greek government debt situation on Thursday with reports that the government would look for IMF support while there was further evidence of German opposition to financial support with some comments  that Greece should leave the Euro area. There were, therefore, fresh market doubts  whether financial support would be achievable.

The German ZEW index was firmer than expected at 44.5 for March which had some positive impact on Euro sentiment even though this was slightly lower than 45.1 for February.

Yen:

The Bank of Japan move to relax monetary policy further will reinforce the lack of yield support for the yen. There will also be speculation over potential carry trades funded through the yen. There is still likely to be caution over aggressive yen selling, especially given an underlying lack of confidence in the other major economies. There is also scope for near-term capital repatriation ahead of the fiscal year-end while there will also be export selling at higher levels. In this context, there still looks to be little reason for aggressive yen selling.

There was speculation that the yen would be used as a global carry trade, but the Japanese currency was able to resist heavy selling pressure. There was evidence of exporter dollar selling when the US currency approached the 91 area against the yen and it consolidated above the 90 level.

Chinese premier Wen warned in weekend comments over the risk of a double-dip downturn within the global economy and tensions between China and the US over trade and the yuan were also generally higher over the week. In this environment, risk appetite was weaker and the yen was able to resist selling pressure.

The Bank of Japan held interest rates at 0.1% following the latest policy meeting. The central bank also announced that it would expand the 3-month funding facility to JPY20trn in an attempt to keep long-term interest rates down. The easing had been expected which limited any yen selling, especially as there were two members who dissented against the decision.

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There will be persistent fears surrounding the government budget deficit and political tensions will continue to escalate ahead of the general election which is likely to be held in May. The recent economic data has mixed and there is likely to be some optimism surrounding consumer spending levels, although this could fade very quickly, especially if there is further evidence of a renewed deterioration in credit conditions which would put the housing sector under renewed threat. Overall, it will be difficult for Sterling to secure any sustained relief over the next few weeks.

Sterling came under strong selling pressure at times, but proved generally resilient over the week as markets had already sold the currency aggressively. Sterling rallied to a high near 1.54 against the dollar before being subjected to fresh selling. The UK currency strengthened to a 3-week high near 0.8920 against the Euro.

A report from the European Commission calling for more decisive measures on the UK budget deficit triggered selling pressure early in the week.

The latest government house-price data was stronger than expected with a reported 6.2% increase in prices in the year to January. Latest opinion polls also suggested a greater chance of a decisive general election result which improved Sterling sentiment, although caution prevailed.

The UK unemployment data was stronger than expected with a 32,300 decline in the claimant count for February after a downwardly-revised increase of just over 5,000 the previous month. The underlying data was less favourable as there was still a decline in employment while longer-term unemployment also increased, but the data still triggered sharp gains for Sterling.

The latest government borrowing data was better than expected with a figure of GBP12.4bn compared with expectations of GBP14.5bn which will provide some Sterling relief. There will be expectations that the full-year deficit will undershoot the target which provided some relief ahead of next week’s budget.

The other data was less encouraging for the data as there was a sharp decline in lending to the corporate sector while mortgage approvals also remained weak for February. Any further evidence of deteriorating credit conditions would be a major negative factor for the currency. The latest CBI industrial survey was also weaker than expected although the organisation was more optimistic over the export sector.

Swiss franc:

There will be continuing optimism surrounding the Swiss economy. The Swiss currency will also continue to gain defensive support from fears over the Euro-zone economy and there is still the possibility of firm buying support if Euro fears intensify. The National Bank will remain an important focus and there will be increased speculation that the bank will tolerate Swiss currency gains, especially after the recent central bank comments. Volatility levels are still liable to be higher in the short-term.

The Swiss franc was able to resist selling pressure during the week and advanced strongly against the Euro to the highest level for 17 months with gains to beyond 1.44. The dollar dipped to lows near 1.05 as cross-related pressure remained a key factor.

There was a sharp decline in the Euro on Thursday as it weakened to lows below 1.44 as the franc surged. There were comments from National Bank member Danthine that consumer should prepare for higher interest rates as the bank had an exit strategy prepared. He also stated that exchange rates should be set freely by the market.

The remarks inevitably triggered strong expectations that the bank would resist intervention and triggered sharp gains for the Swiss currency.

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The Australian dollar was able to maintain a generally firm tone during the week as rallies attracted buying support and it tested resistance levels above 0.92 against the US dollar. The currency drew support from generally firm commodity prices, although there was still unease over the risk of further Chinese monetary tightening.

The latest RBA minutes were slightly less hawkish than expected which dampened support to some extent.

Australian dollar sentiment should remain firm for now. The currency may still find it difficult to extend gains given the global debt profile and the amount of favourable news priced in.

Canadian dollar:

The Canadian dollar was again able to maintain a firm tone over the week and pushed to highs beyond 1.01 against the US currency as markets were fixated on parity. The dollar secured some respite late in the week.

The currency drew support from firm commodity prices and general optimism towards the economy with expectations that the Bank of Canada would tighten monetary policy before the Federal Reserve.

The Canadian dollar should remain generally firm in the short-term given expectations of higher interest rates and confidence in the fundamental outlook. Resistance levels will continue to be tougher to break towards parity.

Indian rupee:

The rupee has retained a confident tone over the week and strengthened to a high around 45.35 against the dollar which was a two-month high for the local currency.

Standard & Poor’s updated its credit rating for India to stable from negative which had a positive impact, while risk appetite was still generally firm. There was some further speculation that the central bank would intervene to restrain the local currency.

The rupee will find it difficult to appreciate strongly, especially if the Reserve Bank signals its resistance to currency gains, while global doubts are liable to increase.

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The Hong Kong dollar maintained a generally firm tone during the week. Risk appetite was generally firm which helped underpin confidence

There were still fears over further monetary tightening from China which maintained a cautious tone, especially with reports that lending would be constrained which could trigger capital outflows.

There will be mixed currency influences from Chinese policy pressures. Overall, the Hong Kong dollar should be able to resist more than limited selling pressure.

Chinese yuan:

The spot yuan rate remained confined to tight ranges during the week and the currency also dipped to a three-week low in the NDF market. China strongly rejected international pressure for a stronger currency.

There was further strong speculation that the Chinese authorities would shift exchange rate policies and switch back to a floating rate or sanction a one-off revaluation.

The government announced that there would be further stress tests over the possibility of a stronger yuan. The Chinese export body warned that a stronger yuan would be disastrous which illustrated that there was still an important internal debate.

Speculation over a yuan revaluation or a move back to a floating currency is liable to remain intense in the short-term.