Weekly Forex Currency Review 18-04-2008

Overall strategy:

The relative US and Euro-zone growth prospects will continue to be a very important market influence. The near-term tight ECB stance and weak US economy will be countered by expectations of a US recovery later this year while Euro-zone fears are liable to increase. The dollar will still look to secure a base after heavy losses, but will struggle to secure more than limited gains.                   

Key events for the forthcoming week

Dollar:

Confidence in the US economy will remain very fragile in the short-term, especially with further weak data surrounding the housing sector. There are, however, some more positive indicators and this will be an important time for Fed policy. Given the fiscal and monetary policy stimulus which will take place over the next few months, the Federal Reserve will need to be cautious over loosening policy aggressively further in the short-term. In this context, the US currency should be close to a significant near-term trough with a slight adjustment of interest rate expectations realistic.    
      
The dollar had a softer bias for much of the week and dipped to new record lows against the Euro while the trade-weighted index also weakened to near the lows seen in late March before a tentative recovery.

G7 officials agreed a changed stance on currencies at meetings late last week. They referred to the fact that they were concerned by recent exchange rate movements as they had potentially negative implications for economic and financial stability.

The evidence suggests that the Euro-zone officials were particularly keen on the change in rhetoric, which was the first significant change since 2004. US and UK officials were more cautious over the shift in stance.

US retail sales edged up by 0.2% in March after a revised 0.4% decline the previous month while underlying sales increased by 0.1% over the month. Overall sales growth was still weaker and indicators of consumer confidence remained at a depressed level.

Housing data remained weak with housing starts falling to a fresh 17-year low as the annualised rate dipped to below the 1.00mn level while building permits also fell.

There was a recovery in the New York manufacturing index to 0.6 in April from -22.2 the previous month while the Philadelphia Fed survey weakened over the month, although the six-month business confidence indicator was firmer.

Long-term capital inflows amounted to US$72.5bn in February from US$57.1bn the previous month, although there was a dip in Chinese US Treasury bond holdings.

Consumer prices rose 0.3% in March while core prices increased by 0.2% over the month for a 2.4% annual increase. Regional Fed President Fisher stated that there would be a strong reluctance to relax monetary policy further which maintained market uncertainty over the late-April FOMC policy decision.

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There will be further major ECB fears over inflation trends in the short-term and the bank will want a restrictive monetary policy, especially as this will discourage high wage settlements. The overall economic risks are liable to intensify with particular risks surrounding the Italian and Spanish economies. There are also likely to be increasingly vocal protests over Euro strength while there will also be the growing threat of intervention to restrain the currency. 
       
The Euro strengthened for most of the week, although there was some profit taking over the second half of the week, notably against Sterling. The Euro continued to draw some short-term support form yield considerations.

The inflation risks were illustrated by a revised consumer inflation rate of 3.6% in March from 3.5% previously with the core rate at 2.0%. ECB members continued to take a tough stance on inflation and interest rates in public comments during the week, particularly from Weber.

The German ZEW index dipped sharply to -40.7 in April from -32.0 the previous month as companies continued to fret over weaker demand and the impact of rising inflationary pressure. There were also increased fears from the industrial sector with Airbus Industries stating that the currency situation was unbearable.

Euro-group head Juncker stated that markets had not got G7's message on currencies while Finance Minister Lagarde stating that the G7 shift was as important as the Plaza accord in 1987. There was no evidence of actual intervention in the market.

Yen  

There will be further concern over the Japanese economy as business confidence continues to weaken. There is still less confidence that the Bank of Japan will cut interest rates which will limit the market impact. Overall, the yen moves are likely to remain dominated by levels of risk aversion and credit-related fears. The yen will remain vulnerable to some further selling pressure in the short-term as carry trades secure support, although global fears could easily intensify again.
                    
The Japanese currency strengthened at times during the week, especially when equity markets stumbled, but the US currency found strong support on any significant retreats and advanced back to levels above 102.0 against the yen.

The monthly Tankan business confidence index weakened to a 5-year low in the March reading which re-affirmed market fears over a weaker Japanese economy.

Yen moves were still dominated by levels of risk aversion in the global economy as domestic influences were of secondary importance.

Better than expected results from JP Morgan helped boost risk tolerances and this put some downward pressure on the Japanese currency with evidence of renewed flows into high-yield currencies funded through the yen.

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Economic fears will persist with further fears surrounding the housing sector as credit conditions tighten. The Bank of England will cut interest rates further, but will want to take a cautious stance given the inflation fears. Any measures to ease the credit crunch would also lessen pressure for rapid interest rate cuts. Overall, there is scope for Sterling correction stronger, especially as it will tend to gain ground if there is a sustained improvement in risk appetite. The UK currency will still find it difficult to gain much traction given the domestic economic fears.   
 
Sterling weakened to fresh record lows near 0.81 against the Euro before rallying back to near 0.7980. The UK currency also rallied to above 1.99 against the US dollar from a low just below 1.96.

UK consumer inflation rate held at 2.5% in March while the core rate was held at 1.2%, contrary to expectations of a small increase in both rates. In contrast, output prices rose 6.2% over the year as input costs rose by over 20% over the year.

There was a small decline in the jobless claimant count for March, but the February data was revised to show a small increase for the first time in 17 months.

The housing-related data remained generally weak with the RICS index recording that 78.5% of agents reported falling house prices in March and this was the weakest survey since its inception in 1978. The latest British Retail Consortium (BRC) survey recorded a drop in like-for-like sales of 1.6% in the year to March.

There were further talks between the Bank of England, commercial banks and government in an effort to ease the strains within the mortgage sector.

Swiss franc

The short-term Swiss franc moves are likely to remain dominated by the degree of risk aversion and global capital flows. The Swiss currency will tend to lose ground on any sustained improvement in risk appetite and there will also be further speculation over a slowdown in the domestic economy. Overall, there is scope for further limited franc losses in the short-term, although heavy selling pressure looks unlikely from current levels.
 
The dollar dipped to lows below parity against the franc over the week, but rallied back towards the 1.01 level. The Swiss currency weakened to test 1.60 against the Euro for the first time since late February.

Retail sales growth was solid at 3.3% in the year to February, but the ZEW expectations index remained weak and suggested a significant slowdown in growth. The domestic influences on the franc were limited over the week.

The Swiss currency lost ground as levels of risk aversion fell to a six-month low with optimism that credit stresses were easing triggering buying support for carry trades.

National Bank President Roth stated that the economic risks were to the downside even though he expected growth to remain relatively robust. He also remarked that the franc had corrected some of the recent weakness against the Euro.

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The Australian dollar pushed stronger against the US currency over the week and advanced to highs near 0.94.

The Reserve Bank minutes from March's meeting recorded that the bank would look to retain a tight monetary policy, but there was some increase in confidence that inflation pressures were moderating.

The Australian currency gained support from the strength of commodity prices over the week as there was further speculative fund buying. Industrial metals prices strengthened while Australia's export prices also continued to improve.

The Australian dollar will gain further support if commodity prices remain high and credit fears ease, but the domestic economic risks will tend limit scope for gains.

Canadian dollar

The Canadian dollar strengthened in the middle of the week and briefly strengthened through parity before losing ground again. The Canadian dollar drew significant support from high commodity prices with crude at record levels.

There was a 0.4% increase in consumer prices for March while there was a 0.2% core increase in prices which pushed the annual core rate down to 1.3% from 1.4%. The annual core decline maintained market expectations of a further cut in interest rates.

Manufacturing shipments were firm for February with a 1.6% monthly increase, although the series is volatile and there were concerns over the domestic economy.

The Canadian dollar will gain support from high commodity prices, especially if risk tolerances remain higher. Domestic fears are likely to lessen the potential for gains much beyond current levels against the US currency.

Indian rupee

The Indian rupee held little changed over the week, generally holding just stronger than the 40.0 level against the dollar as conflicting pressures on the currency continued. Markets were closed for a holiday on Friday.

Wholesale inflation dipped from a three-year high the previous week, but remained above the 7.0% which maintained inflation fears, especially with very high oil prices.

The Reserve Bank announced that the cash reserve ration would be tightened by 0.50% to 8.0% in two stages which provided some support to the rupee. There was evidence of modest capital inflows as risk tolerances improved while the central bank was again active in the market to stem any significant rupee gains.

The rupee will gain support if regional currencies strengthen and risk aversion eases, but it will be difficult to secure more than limited gains.  

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The Hong Kong dollar had a slightly softer tone over the week, but there was support on dips towards the 7.80 level against the US currency with evidence of a covering of carry-trade positions close to this central rate.

The US currency gained some initial support from a rise in Libor rates, although local rates also increasefd over the second half of the week which lessened the impact.

Domestic inflation fears persisted with the underlying rate at a 10-year high of 4.3%. This maintained pressure for a tighter monetary policy to restrain inflation

The Hong Kong currency should be able to resist significant losses in the short-fterm, especially with wider appreciation pressure on Asian currencies and persistent background speculation that the peg could be broken. 

Chinese yuan

The central bank tightened policy again with the reserve ratio tightened by 0.5% to a record level of 16.0%. The move triggered a temporary increase in dollar demand which, allied with some profit taking on short dollar trades, eased upward pressure on the currency. The yuan consolidated just stronger than 7.00 against the dollar

Inflation fears persisted with the consumer inflation rate remaining above the 8.0% level forf March at 8.3%, maintaining pressure for tighter monetary policies.

There was further speculation that currency appreciation may still be seen as an alternative to further domestic tightening, especially with stock markets vulnerable.

The yuan is likely to secure further net gains in the short-term, especially with further pressure for currency appreciation to battle inflation pressures. Economic fears are liable to increase which will curb gains with the advance likely to slow.

Click here to perform accurate conversions on any major global currency.

New York, February 26, 2008  dbFX, the leading retail online  currency trading platform from Deutsche Bank, experienced the highest  volumes of trading during January 2008 since its launch in June 2006.

Nearly half of all retail trades executed during January over dbFX  were Euro / USD transactions, compared to an average of 15% in the three months prior to the market turmoil that began in August 2007. The surge in Euro / USD trading peaked on January 16th when 70% of  daily trading was between this currency pair.

Immediately after the FED's first interest rate cut of 75 base points on January 22nd , the U.S. dollar lost ground against the Euro as the Euro / USD currency pair accounted for 40% of trading on the following day, and nearly 50% on January 24th. As a result of the FED's cut, the next day's trading of the Japanese  yen was down against the world's other major currencies, most notably against the Euro where volumes were slashed by half to just 8% of daily trading volumes.

Trading of the Japanese yen against the U.S. dollar continued to decline and accounted for less than 10% of  January's total volume on dbFX, down nearly half against the previous  month's figures. dbFX has 34 currency pairs available to investors on  its platform.

Commenting on January's volumes, Betsy Waters, Director and head of dbFX Americas said, "Tumbling equity prices prompted investors to look  for asset classes where they could make money, and FX presented such  an opportunity. In January, we saw a 'flight to quality' in currency  trading."

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