Weekly Forex Currency Review 13-04-2007

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Overall strategy

Confidence in the US economy and currency will remain very fragile for now with growth uncertainties compounded by structural concerns. Much of the weakness is, however, discounted in current values which should curb aggressive selling from current levels. High-yield currencies will look to extend gains, but will be vulnerable to a sharp correction.

Dollar

The US currency failed to secure any sustained benefit from the tougher than expected Fed minutes and a firm employment report, illustrating the underlying lack of confidence. There will be further concerns over the combination of weak growth and stubborn inflationary pressure. There will also be persistent structural concerns and the dollar will be at risk if underlying institutional flows into the US remain weak. There is still the potential for slightly stronger yield support which should help secure a limited corrective recovery.

The dollar strengthened temporarily after the firm employment data last week, but was unable to sustain the gains and weakened to lows beyond 1.35 against the Euro.

The US currency was undermined in part by fears over rising Asian trade tensions as the US longed complaints against China at the World Trade Organisation.

Following the stronger than expected employment increase of 180,000 at the end of last week, there was little in the way of major US data. US jobless claims rose to 342,000 in the latest week while there was a sharp increase in import prices for March, but the retail sales reports for March were generally firm.

The Federal Reserve minutes from the March FOMC meeting stated that that further rate increases may be necessary to curb inflation. The minutes also revealed greater concerns over growth prospects, although there was confidence that the housing sector was stabilising

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The Euro will continue to be supported by confidence in the Euro-zone economy and a firm ECB stance, although the Euro will find it difficult to secure further firm buying support given that at least two further interest rate increases are already priced in.  Markets will also remain on alert for potential verbal intervention from European politicians, particularly ahead of the French presidential election with the first round of voting later this month.

The Euro remained strong on the crosses during the week and strengthened to a fresh post-launch high against the Japanese yen above the 160.0 level.

The ECB left interest rates at 3.75% following the latest council meeting. In the press conference, President Trichet stated that policy was still accommodative while the bank would monitor inflation closely and act in a firm and timely manner.

This stance reinforced market expectations that there would be a further increase in June and  Trichet also stated that rates at 4.0% would still be accommodative, increasing speculation over increases beyond 4.0% over the second half of 2007.

The Euro-zone data remained generally strong with firm French industrial production data and a reported increase in German exports.

Yen 

Yield considerations will remain very important in the short-term with the yen still vulnerable to selling pressure on low interest rates. There is continuing strong interest in carry trades while capital outflows from Japan into overseas bonds are liable to continue. Risk aversion levels are liable to intensify again if there is a sustained drop in global stock prices and market complacency over risk is a growing threat which could trigger a sharp yen correction stronger.  
                    
The yen found some support close to 119.50 against the dollar, but was unable to make any strong headway as there were further losses on a trade-weighted basis.

The Bank of Japan left interest rates at 0.5% at the latest meeting by a 9-0 vote and the bank’s assessment of the economy was also unchanged with governor Fukui committed to a gradual adjustment of policy. The machinery goods data was weaker than expected with a 5.2% drop for February.

The current account surplus remained strong for February, but there were reported capital outflows from Japan in the first week of the new fiscal year.

The yen was again undermined by a fresh interest in carry trades and a flow of funds into high-yield currencies as risk aversion fell.

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UK growth data has remained firm which will maintain Sterling confidence and expectations that the Bank of England will tighten policy again in May. The underlying housing-sector risks are continuing to build with the underlying pressures liable to be masked by seasonal considerations. The trade data will also pose medium-term risks to the currency. Yield trends will still tend to dominate in the short-term and help underpin the currency with markets looking to challenge the 2.00 level against the dollar.
 
Sterling remained firm against the US dollar during the week with gains to above the 1.98 level while Sterling was slightly weaker against the Euro around 0.6815.

There was little in the way of major economic data, but the retail sales evidence remained firm with a 3.9% reported increase in like-for-like sales for March. The housing evidence was still firm with the RICS index recording a positive balance of 26 in March from 25 in February.

The British Chamber of Commerce (BCC), however, stated that the economy was slowing in response to the interest rate increases and warned against further increases.

The trade deficit increased to GBP6.8bn in February from a revised GBP6.4bn. There was an increase in imports and exports outside the EU fell, but EU exports were firm.

Sterling gained support following a media report that the Treasury would change the rules to allow tax-free repatriation of overseas corporate earnings.

Swiss franc

The underlying trend will persist in the very short-term with the strength of domestic fundamentals offset by the continuing market interest in selling low-yield currencies to invest in high-yield instruments. This clash of forces is liable to maintain franc volatility against the Euro, especially with the risk that the National Bank will voice its concern over franc weakness in Europe. The franc should remain firm against the US dollar.
 
The Swiss currency weakened to new 8-year lows against the Euro at around 1.6450. The franc was little changed against the US dollar, challenging 1.21 late in the week.

The Swiss economic data remained firm with the unemployment rate falling to a four-year low of 2.9%

The franc was still subjected to selling pressure as there was strong market interest in carry trades with low-yield currencies under pressure as risk tolerances increased to an 18-month high.

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The Australian dollar strengthened to a 17-year high against the US currency with highs above 0.83 against the US currency as sentiment remained weak and the Australian currency resisted profit taking pressures.

The headline employment data was weaker than expected at 10,500, but there was a strong increase in full-time jobs while unemployment fell to a 31-year low at 4.5%.

Wages remained under control according to the latest data, but markets were still expecting a further increase in interest rates this quarter.

The Australian dollar drew support from strength in metals prices while the strong interest in carry trades also provided support. The currency was also supported by a AUD14.2bn for Rinker by Mexican company Cemex.

The Australian dollar should remain strong in the short-term, but will be vulnerable to a sharp correction weaker.

Canadian dollar

The Canadian dollar has been consistently strong, pushing to highs around 1.1335 with optimism over the domestic economy compounded by US dollar weakness.

Domestically, there was a rise in housing starts, although there were no major releases. The Canadian currency was underpinned by renewed speculation that the Bank of Canada would have to consider a further increase in interest rates.

The strength of commodity prices was also supportive for the currency even though oil prices fell in the middle of the week.

The Canadian dollar should retain a firm stance, but will struggle to extend gains in the very short-term following the recent strong advance.

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The Indian rupee has remained strong over the past week and strengthened to 8-year high around 42.76 against the dollar before settling close to 42.80 on Friday.

There was dollar selling associated with the central bank monetary tightening with the second part of the reserve requirement increase taking effect at the end of this week.

There were strong capital inflows into local markets as international risk tolerances were higher. There was further evidence of a central bank intervention to stem rupee gains while there was importer demand for dollars to pay for oil shipments.

The Indian currency should remain firm in the short-term, although further gains are likely to be limited given the extent of recent gains and the intervention threat.

Hong Kong dollar

The Hong Kong dollar has generally been trapped in narrow ranges over the week with selling interest close to 7.81 and support close to 7.8160 with the local currency near the weaker end of this range on Friday. The Hong Kong currency secured some support from a lack of US dollar confidence.

There was some Hong Kong dollar demand ahead of key Initial Public Offerings (IP0 with Country Garden Holdings due to be listed next week.

The Hong dollar is unlikely to make strong progress in the short-term, but US dollar vulnerability should continue to provide important protection.