Weekly Forex Currency Review 23-04-2010

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Euro-zone vulnerability will remain an extremely important market focus in the short-term. The Greek debt fears will also tend to increase underlying unease over sovereign debt risks. There is likely to be a greater focus on individual-country fundamentals with greater divergence in currency performance and the potential for higher volatility.               

Key events for the forthcoming week

Dollar:

There will be an underlying mood of confidence towards the near-term US economic outlook, especially with industrial surveys still robust. There will be some unease over the recent deterioration in consumer confidence and fears that the economy will slow sharply again once the fiscal stimulus ends. In this context, there will be further doubts whether the Federal Reserve will look to increase interest rates within the next few months. The dollar may gain some support on defensive grounds, although the impact will be mixed as the US currency has also gained some support from growth-orientated capital flows. The dollar will find it difficult to make strong headway.

The dollar struggled to secure a decisive trend early in the week, but did manage to secure significant gains over the second half of the week. The US currency strengthened to a 12-month high against the Euro and also advanced against the Japanese currency.

There was reduced demand for the dollar on defensive grounds, but the currency still gained some degree of support on expectations over relative growth differentials when compared with Europe.

The US existing home sales data was stronger than expected with an increase to 5.35mn from a revised 5.01mn the previous month while jobless claims declined to 456,000 from 480,000 the previous week.
The data maintained expectations that the US economy will out-perform the Euro-zone in the short-term and this did help underpin the dollar, although the impact was measured given that the focus was on the Euro.

There were still generally cautious remarks on the economy from Federal Reserve officials which continued to dampen expectations that the central bank would move to tighten policy in the near term.

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The Greek budget and debt situation will continue to be watched very closely. Confidence may revive slightly if there is a formal decision to apply for IMF support, but underlying confidence is likely to remain very fragile, especially as there will be fears that bond-market tensions will spread to other Euro-zone countries. The latest economic data may provide some support, especially as there are likely to be inflation concerns within the ECB with some pressure for higher interest rates. 

The situation surrounding Greece and the Euro-zone as a whole remained a very important focus during the week and continued to put downward pressure on the Euro as it dipped to 1.32 against the dollar. The currency lost ground against the dollar and on the major crosses with 2-month lows against Sterling.

Ratings agency Moody’s cut the Greek credit rating to A3 from A2 which reinforced the lack of confidence in the debt situation. There was also an upward revision to the Greek 2010 budget deficit to 13.6% of GDP by the European Commission.

Markets remained on high alert over negotiations with the IMF and there was further volatility surrounding the debt situation. The lack of confidence was illustrated by a further widening in Greek bond yields over German bunds to a peak above 550 basis points which was a record high since the Euro’s launch.

The German ZEW business confidence index strengthened to 53 from 44.5 the previous month which was the highest figure for 12 months which increased near-term optimism over the economic prospects. There were strong readings for the latest PMI readings which maintained some degree of confidence while the IFO business sentiment index also registered a significant monthly advance.

ECB members Stark and Weber both expressed some concerns over the inflation outlook which sparked some speculation over a change in stance by the ECB, although divisions within the bank are liable to increase.

Yen: 

Trends in risk appetite will remain important and the Japanese currency will gain some degree of support if there is a sustained downturn in equity markets. A Chinese yuan revaluation would also provide near-term support for the yen. There will still be interest in selling the Japanese currency, especially as there are also fears over the Japanese economic fundamentals with warnings over the credit-rating outlook. The yen is not well placed to secure strong support.

The yen was generally weaker against the dollar during the week with lows near 93.50 while the Japanese currency held its ground against the Euro.

The March Japanese trade data recorded a 45% increase in exports over the year which helped support confidence in the Japanese economy. There was also speculation that the Bank of Japan would upgrade its economic assessment and this also dampened expectations that the central bank would move to ease policy further.

Japanese Finance Minister Kan stated that the central bank and government should act together to push inflation higher and this would also tend to imply a weaker Japanese currency.

Ratings agency Fitch stated that there was a risk to Japan’s credit rating and this will tend to reinforce unease over the underlying Japanese fundamentals and this was significant in unsettling the Japanese currency later on Thursday.

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There will still be a high degree of uncertainty over the budget and government-debt outlook, especially as there is still no clear evidence of a decisive outcome at the May 6 election outcome. The latest economic data will tend to provide some support, especially as there will be speculation that the Bank of England will have to move to a tightening bias within the next few months. A persistent lack of confidence in the Euro-zone economy will also provide some degree of protection against the Euro. 

Sterling proved broadly resilient against the US dollar and managed to recover from dips towards the 1.5250 area. The UK currency strengthened to a two-month high against the Euro and proved generally resilient.

The latest inflation data was stronger than expected with an increase in the headline CPI rate to 3.4% from 3.0% which will provide some initial Sterling support on expectations that the Bank of England may have to raise interest rates sooner than expected and there will certainly be reduced expectations that the bank will expand the quantitative easing.

The UK unemployment claimant count decline was bigger than expected at over 32,000 for March following a revised drop of 40,100 for February. In contrast, the unemployment rate increased to 8.0% from 7.8% previously which was the highest rate for over 16 years and a decline employment cast doubts on the labour-market strength.

The retail sales figure was slightly weaker than expected with a monthly 0.4% increase following a 2.5% increase the previous month. The preliminary GDP growth figure was also weaker than expected at 0.2%.

The latest UK government borrowing data was slightly better than expected with a monthly borrowing requirement of GBP23.5bn. The annual deficit was also slightly lower than expected at GBP162.5bn, but this was still close to 12% of GDP and reinforced the lack of confidence in underlying fundamentals.

Swiss franc:

The Swiss currency will continue to gain some defensive support from a general lack of confidence in the Euro and Euro-zone economy. The National Bank will remain an important focus and there will be further pressure on the central bank to prevent further gains against the Euro and the evidence suggests that there has been sustained intervention. The dollar should be broadly resilient against the Swiss currency even if further near-term gains are limited.

The dollar strengthened to highs just above 1.08 against the franc with significant gains over the second half. The Euro found support close to 1.4320 against the franc and there was a strong suspicion that the National Bank was intervening persistently to weaken the Swiss franc.

The latest figures on reserves also showed a strong increase in National Bank Euro holdings for the first quarter, reinforcing the impression that the bank had been particularly active in restraining the franc. There were doubts whether the policy action will be sustainable in the medium term.

The Swiss economic data did not have a major impact with a small decline in the ZEW confidence index while there was a solid trade surplus for March.

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The Australian dollar maintained a firm tone against the US dollar during the week and tested resistance levels above 0.93, although progress was limited. The currency gained initial support from generally robust risk appetite, although confidence faded later in the week and there was a retreat back to the 0.92 level.

The latest Reserve Bank minutes were relatively hawkish which provided support for the currency on expectations of further interest rate increases. In contrast, Governor Stevens stated that interest rates were near average levels which dampened expectations of a further near-term tightening.

Underlying Australian dollar sentiment should remain generally firm for now with expectations of further carry-related inflows. The evidence still suggests that the currency will find it difficult to make further significant headway.

Canadian dollar:

The Canadian dollar continued to fluctuate around the parity level during the week with a high degree of volatility and settled just stronger than the 1.00 level on Friday.

The Bank of Canada held interest rates at 0.25% following the latest monetary policy meeting which was in line with market expectations. The bank did, however, drop the promise not to increase interest rates until July and this gave a strong suggestion that there will be an increase at the June meeting.

The currency initially gained from firm risk appetite, but global market confidence tended to deteriorate during the week which curbed buying support.

The Canadian dollar should remain generally firm in the short-term, especially given expectations of higher interest rates. It will remain difficult to extend gains given the amount of favourable news priced in, especially if global risk appetite deteriorates.

Indian rupee:

The rupee was generally slightly weaker during the past seven days, although losses were limited as underlying confidence remained firm and it settled near 45.60 against the dollar.

There was confidence in the regional economy following generally favourable growth figures. The Reserve Bank also moved to increase interest rates for the second time this year in order to dampen inflation expectations.

The rupee should be able to maintain a relatively firm tone against the dollar in the near term, especially if there is a move to revalue the Chinese currency. 

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The Hong Kong dollar drifted slightly weaker and pushed to a low near the 7.7640 region before finding some degree of support.

There was a generally firm tone towards the regional economy while there was further speculation over a shift in the Chinese exchange rate regime which limited selling pressure on the currency.

Any Chinese yuan revaluation would tend to be a net positive for the Hong Kong dollar. Volatility levels are liable to remain higher in the short-term.

Chinese yuan:

The spot yuan rate remained firm over the week while there was again no move by the authorities to revalue the Chinese currency.

There was a move in forward markets with the yuan strengthening to the highest level since the middle of 2008. There was demand to hedge he dollar by corporates on expectations that there would be a Chinese revaluation.

There were warnings from within the Industry Ministry that a yuan rise would damage exports as the internal policy debate continued.

Speculation over an adjustment to the yuan regime will remain very high. There is a certainly a strong possibility of at least a limited policy move and this could be sanctioned within the next few days.