Sterling Falls

The dollar was little changed against the euro on Friday but about 2% lower for the week as today's US economic data showed the US economy is deteriorating and the Federal Reserve is in recession fighting mode, while European economic numbers were better than expected and the European Central Bank is in inflation fighting mode. Sterling declined versus most key currencies and fell to an all-time low against the euro as weak UK economic data increased the probability of further Bank of England interest-rate cuts. The Australian and Canadian dollars and Swiss franc were little changed while the yen rose against most major currencies on increased risk aversion as US stocks traded lower.

The GBP/USD dropped as UK consumer confidence fell to the lowest level in 15 years and UK house-price rise slowed to the lowest rate in 12 years. The risk of a UK recession is also increasing and the banking system is under stress. The chart shows a large head-and-shoulder formation, with long-term bearish GBP/USD implications. There are long-term support levels at the 1.97 and 1.93 areas, but the pair is likely to fall below that, possibly to 1.80-1.85.

Hawk ECB Vs Dove BOE

The BOE expects economic growth to slow down sharply this year, while they expect inflation to remain elevated above their 2% target due to rising energy and prices along with wage pressures, yet they see inflation to drop later this year, the BOE also said that the ongoing turbulence in the financial markets remains a threat due to rising short term volatility, though the falling Pound in the last period helped economical growth in the U.K.

Mr. Trichet on the other hand remained Hawkish as he stressed the ECB are still focused on inflation which rose to a 14-year high at 3.3 percent on rising food and energy prices, the short term outlook for inflation remains highly elevated above the 2% target, while on the medium term the outlook remains for upside risks to price stability.

On the 15-nation economical growth, the ECB president indicated that the economy continues to grow on a moderate pace, yet uncertainty remains high concerning the outlook for growth, but Mr. Trichet stressed that anchoring inflation expectations is the ECB's "highest priority", over the medium to long term.

Scandi Daily

There has been a significant rally in US callable mortgage bonds before Easter given speculations that the Federal Reserve would in the end buy mortgage bonds in order to restore investor confidence. Furthermore, the two GSEs, Fannie Mae and Freddie Mac together with the regulator OFHEO reached an agreement on 19 March that the GSEs would provide mortgages amounting to up to USD 200bn in order to help US homeowners.

The Financial Times reported last week that there have been discussions between the Federal Reserve, BoE and ECB whether to buy mortgage bonds in order to support the mortgage markets in the US, the UK and Euroland. However, both US and Euroland officials are against such a move.

These events have led to a significant rally in US mortgage bonds with OAS on the on-the-run callable mortgage bond tightening significantly last week. USD swap spreads have tightened, while the implied volatility of the long end of USD swaption market has not risen significantly. Furthermore, the stock price of both Freddie and Fannie rose some 55-60% last week.

So what are the implications for Danish callable mortgage bonds that have also been under some pressure the past two weeks with OAS widening 10-12bp last week in the 4% and 5% 30Y callables? In the long run it should be positive for Danish mortgages that the Federal Reserve is trying to solve the crisis in the US mortgage sector. Swap spreads in Euroland have also begun to tighten although the ECB is not about to cut rates, so short term we would expect to see a tightening of the OAS.

Global Daily

With Europe coming back from Easter holiday today markets will be digesting the news over the holiday. Sentiment has improved markedly on the back of the better-than-expected earnings from investment banks and new Fed initiatives to revive the mortgage market. Bond yields in Euroland are likely to open 5-10bp higher today to catch up with the move in US yields as more money comes out of the shelter and find its way to riskier assets again.

The key question this week will be whether this improved sentiment can hold up. For now it seems to hold but overall we are still in a downward trend in most bond markets. The short end in the US now only prices 35bp in additional cuts, which we think is too little. Hence some value is starting to build here. On the macro front, the market has mostly focused on the good news such as a rebound in existing home sales, whereas weak jobless claims numbers (rose to from 356k to 378k last week) did not get any attention. Today we get more data in the US with the release of CaseShiller house prices (consensus -10.5%, last – 9.1%) and consumer confidence (consensus 73.5, last 75).

Looking ahead key data will be German ifo index (Wednesday), US durable goods orders and new home sales (Wednesday) and US core inflation/spending numbers (Friday).

Markets Overnight

Stock markets in Europe are expected to open higher today on the back of strong stock market performance in the US yesterday and Asia overnight. In the US confidence in especially financial stocks was boosted by JP Morgan’s raised USD 10 a share bid for Bear Stearns and the unexpected increase in existing home sales by 2.9% m/m in February. S&P 500 and Nasdaq yesterday finished up 1.5% and 3.0% respectively. The positive sentiment continued in Asia with Nikkei up 2.3% and Hang Seng up 4.5% this morning.

With some confidence returning to financial markets bond yields in the US surged yesterday. 2Y and 10Y bond yields yesterday increased 19bp and 15bp and are trading at 1.79% and 3.50% respectively this morning. Credit spreads have tightened with the improved market sentiment.

Commodity prices stabilised yesterday after the sharp drop on Thursday. However, crude oil prices are slightly lower with the Nymex April future down 0.5% to USD 100.48 since yesterday.

On the FX market USD weakened overnight after rallying strongly on Thursday on the back of the sharp drop in commodity prices. USD this morning is trading 1.5540 against EUR and 100.17 against JPY. Because of the sharp drop in commodity prices on Thursday commodity currencies like AUD, CAD and NZD have weakened markedly since Thursday despite some of the loss being reversed overnight on signs of some stabilisation in commodity prices. Carry currencies have strengthened with some risk appetite returning to the market. In Scandinavia NOK overnight has reversed part of the loss suffered on Thursday on the back of lower crude oil prices. NOK this morning is trading 8.1058 against EUR.

Danske Daily

Today's Key Points

• European stock markets expected to open higher on the back of raised bid for Bear Stearns and stronger than expected US home sales.
• European bond yields are expected to open 5-10bp higher to catch up with the surge in US bond yields yesterday.
• Commodity prices stabilise after sharp drop on Thursday.

After Holiday Mix Up

After a long weekend celebrating the Easter holiday, and the U.K. and Euro Zone actually are still celebrating... the U.S. came out with quite a surprising comeback! Is it time to put the worst behind us or is this just a glitch? According to some, it's still the beginning!

Although the housing sector seems to have picked up due to the decline in prices, the U.S. economic activity actually plunged to its lowest level in five years in February after a report by the Chicago Federal Reserve Bank indicated "an increasing likelihood that recession has begun."

The Index fell to -1.04 in February from -0.68 in January illustrating further deterioration. Since the one month figure can be inaccurate at times, the Feds see the three-month moving average as a more accurate indicator to the national economic growth. But in this case it won't really matter since the readings for both averages were the lowest since April 2003!!

It's not quite clear on how the economy is doing at the moment. Concerns about inflation had eased after the three-month average showed low inflationary pressures in the coming year but then again if we take what the Feds say into consideration then there's a clash somewhere and the missing link has yet to be found! Who are we supposed to listen to ladies and gentlemen? The Feds saying uncertainty about the inflation outlook has increased of the moderating inflationary pressures?

The black sheep in the herd has always been the housing sector after it had recorded poor sales and construction readings. The cancerous cell in the body of the economy was the one that actually eased all kinds of pressure and tension in the area as it surprisingly reported a rise in sales by 5.03 million in February on the back of record low prices compared to the previous rise of 4.89 million in January.

This rise marked the first in seven months showing an incline in sales by 2.9% after prices have been plunging the past year. Compared with a year ago sales have declined 23.8% but the boost seen last month which could be a sign of stability was due to the massive drop in prices.

Median prices fell to $195,900, dropping 8.2% from a year earlier. However, prices of single-family homes fell 8.7% marking the largest drop since the records began in 1968. This finally pushed inventories to diminish as inventories of unsold homes fell 3% to 4.03 million.

Region-wise, sales inclined in three of four regions. The West is still at the bottom as it fell 1.1%. However, the remainder was impressive especially in the Northeast where sales rose 11.3%, 2.5% in the Midwest and 2.1% in the South. Median sales price also were lagging in the West as they were down 13.4% due to the inactive jumbo loans market with loans above $417,000 are frozen.

Sales of single-family homes inclined 2.8% in February; the second consecutive increase, causing a fall of 5.5% in the inventories of unsold single-family homes. Sales of condos rose 3.7% in February after they have been slacking off with a rate of 29.7% the past year.

It's a good start this week for the U.S. after the upbeat data about the housing sector combined with JPMorgan quadrupling its offer to Bear Stearns helped push U.S. Stocks. After being at $2 a share, JPMorgan Chase agreed to buy Bear Stearns for $10 a share in an attempt to reduce risk in financial markets. At the start of the session, the S&P 500 Index increased 20.28 points or 1.5% to 1.349.79. The Dow Jones also rose 187.48 or 1.5% as well to 12.548.8 while the Nasdaq Composite Index gained 50.36 or 2.2 percent to 2,308.47.

I guess there's no time to rest dear reader, even after the long holiday! Minds now are still puzzled after the contradictory data being released from the U.S. economy yet traders' risk appetite increased as confidence is somewhat restored. It seems like a good week for the U.S. as the greenback gained instantly at the hour of the report but yet it was not strong enough to maintain those levels. The Term Auction Facility is just around the corner and the Feds are not getting a shut eye! They're exerting all the effort they have to salvage the economy and leap over the pit hole as they hang closely by the edge...

Carry Trades Rebound But Don't Count On a Broad Recovery

With the stock market closed for Easter, carry trades have extended their rise. If another shoe does not drop next week, we could see a further rebound, but a rebound does not make a recovery. We continue to stress that the current market environment makes it very difficult for carry trades to recover. It is also the fiscal year end for Japan, which means that repatriation could keep the yen under pressure. Meanwhile there are a lot of Japanese economic data due for release next week and we expect most of them to be Yen positive.

Canadian, Australian and New Zealand Dollars Continue to Slide Amid Lower

The Canadian, Australian and New Zealand dollars recovered slightly from their steep decline yesterday. Next week's data releases imply continued volatility in the commodity currencies, as Canadian retail sales figures are projected to be higher in light of 33 year low unemployment figures and wholesale sales rising at the fastest pace in 13 months. In the backdrop of a suffering economy, consumers continue to be the pillar of confidence, as projections imply continued spending in the coming months. Down under the New Zealand trade balance forecasts remain positive, boosted by the surging prices in dairy export, but with the recent declines in commodity prices, it remains to be seen if the economy will still continue to show a trade surplus. Although New Zealand GDP forecasts imply growth in the economy, the country's finance minister fears the possibility of a short lived recession, as consumer confidence dips to a 19 month low.

Mid-Day Report: Dollar Extends Rebound

Dollar extends the rebound against commodity currencies today and the strength is spreading further to against Swissy and Euro. Aussie and Loonie were both pressured throughout the day, following liquidation in commodity long positions. Gold is set to have it's biggest weekly drop in 25 years, dropping by 12% from it's record high of over $1000/oz. Oil, also fell below $100/bl. Meanwhile, the Euro and Swissy also retreats further against the greenback as traders take profits from the long positions, following weaker than expected services PMI reading in Mar.

Data from US saw initial jobless climbed 22k to 378k, matching Post-Katrina high. Philadelphia Fed survey improved more than expected from -24 to -17.4 in Mar. Leading indicators dropped -0.3% in Feb meeting consensus. Canadian Leading indicator dropped -0.3%, worse than expectation of 0.1%. Released earlier , Swiss combined PPI rose 0.2% mom, 3.6% yoy in Feb. Swiss trade surplus widened to 1.06b.

The biggest surprise today was UK retail sales which grew 1.0% in Feb, much better than expectation of -0.2% fall and even stronger than prior month's 0.8% growth. YoY rate just slowed slightly from 5.6% to 5.5% versus consensus of 3.7%. Sterling is relatively steady today, supported by rebound in EUR/GBP and EUR/CHF crosses.

What to Expect for the US Dollar

* Eurozone Consumers Continue to Spend
* British Pound: April Rate Cut Will be a Close Call

What to Expect for the US Dollar

Markets around the globe were closed for Good Friday which led to zero volatility in currencies. After a week of wild swings, the quiet trading gives everyone an opportunity to think about what could impact the US dollar in the week ahead. Banks have not been shy about tapping into the Fed's new liquidity provisions and the recent move in the stock market suggests that the central bank's efforts have helped to temporarily ease the latest uncertainty in the financial markets. The demise of Bear Stearns could have led to a huge collapse in the stock market, but actions by the Fed have helped stocks end the week higher than its pre-Bear Stearns levels. The biggest problem in the financial markets right now is the fear of counterparty risk. By allowing investment banks to post a broader range of collateral for a longer period of time, the Federal Reserve has in effect, swapped their safe Treasury bonds for dodgier assets such as mortgage backed securities. Unfortunately this will only be a temporary solution to a serious problem which is why we haven't seen the end of dollar weakness. Two weeks from now, we have non-farm payrolls due for release and the vulnerability of the labor market will come back to the forefront. Goldman Sachs just joined Citigroup in announcing a new round of layoffs. However before those numbers are released, we do have a week of only Tier 2 US economic data, or data that should not be particularly market moving. The most important releases are existing and new home sales, durable goods, consumer confidence, the final Q4 GDP numbers, personal income and personal spending. Everyone expects the housing market to remain weak, but consumer confidence could surprise to the upside since the weekly ABC numbers have shown signs of stability. The GDP numbers are the final figures for the fourth quarter, which means that they should not be particularly market moving. Therefore even though the US dollar could resume its slide relatively soon, the lack of any Tier 1 economic data such as non-farm payrolls, inflation reports or retail sales does not ensure that this will happen in the coming week. In the meantime, keep an eye on the equity and bond markets. If they continue to stabilize, the dollar could extend its rebound, but if volatility grapples the market once again, the dollar could quickly resume its slide.

London Session Recap

The final London Session of a very busy week (Easter) has brought a substantial decrease in trading activity. Market conditions are inferior to the backdrop to which we recently have become accustomed over the past two weeks. Both volume and volatility came sporadically, if at all, leaving market players with range bound, illiquid price movement. The only trading we heard of was the closing of positions heading into the holiday weekend.

Nearly all currencies are within striking distance of yesterday's New York closes. Both USDJPY and USDCHF are sitting unchanged at 99.50 and 1.0095 respectively. The Greenback has come under very light pressure in EURUSD and AUDUSD, which have added about 10 to 20 pips as of this writing. EURGBP has been able to rebound slightly, bouncing off the 0.7760 level following yesterday's London drubbing. Beyond a rundown of the aforementioned currency pairs, there is not much of a tale to tell in today's FX market.

Virtually every market is closed today, leading to a blank economic agenda for New York traders. We would expect similar a similar trading environment for the final session of the week.

Upcoming Economic Data Releases (New York Session)

Dollar Back Under Pressure In Asia

European Morning Update

News from Australia:
Prior Current
Australia
January Westpac Leading Index - 0.2% - 0.1%
March DEWR Skilled Vacancies +4.7% +4.1%
Q4 Dwelling Starts +1.3% +2.6%
February Preliminary BoP Imports (MoM) +6.0% - 1.3%

Numbers from Australia this morning were soft but not excessively and basically reflect the gentle slowdown in the economy. The leading index implied growth moderating to around 3.5%-3.8% so no one is going to get too bearish at this stage.

Dwelling Starts were still firm in Q4 but it is likely that the two interest rate hikes this year will take the steam off the housing market. Jobs ads were soft again and tend to suggest that the record low unemployment may not last for too many months if the trend continues.

Releases from Japan:
Forecast Actual
Japan
January All Industry Activity Index (MoM) +0.1% +0.0%

Industrial activity was a little softer in January but that wasn't far from forecasts and again does reflect the mild downturn that has already been seen, so no great surprises.

However, the Reuter's Tankan report was not quite so rosy with corporate sentiment deteriorating due to the continuing rise in raw material prices. The Manufacturer's MI slipped by 1 point to +8 which is less than half the level seen 3 month's ago at +21.

The scene is set for the BOJ's Tankan report on April 1st.

FOMC Cuts 75-BP, USD Edges Up

The dollar regained some footing against the euro and sterling after the FOMC announced its decision to lower its benchmark lending rate by 75-basis points to 2.25%. The Fed voted 8-2 in favor of the cut with Board members Fisher and Plosser favoring a less aggressive cut. In the accompanying statement, the Fed reiterated that "financial markets remain under considerable stress, and the tightening of credit conditions and the deepening of the housing contraction are likely to weigh on economic growth over the next few quarters". The statement also addressed inflation, saying it expects price pressures to moderate but uncertainty for the outlook has increased. Nonetheless, the Fed added that downside risks to growth remain ¨C committing it to "act in a timely manner as needed to promote sustainable economic growth and price stability". Shortly after the policy announcement, Fed Funds futures were pricing in another 50-basis point reduction at the April meeting to 1.75%.

US equity markets, which rallied sharply ahead of the decision, maintained its gains, with the Nasdaq and S&P both up by more than 3% and the Dow Jones advancing by more than 2.5%. Additionally, investment banks Goldman Sachs and Lehman Brothers both announced better than expected earnings results, albeit at sharp declines from the prior quarter.

Economic reports released earlier in the session included building permits, which posted a sharp 7.8% drop in February from a 1.8% decline a month earlier to 978k units and February housing starts, which fell by 0.6% from 0.8% to 1.065 million units. The producer price index revealed lingering inflationary pressure with core PPI edging up to 0.5% versus 0.4% and up 2.4% from 2.3% a year earlier. The headline PPI number drifted lower to 0.3% versus 1.0% month earlier and falling to 6.4% from 7.4% in the previous year.

GBP Rally fades near 2.0270

The sterling's rally against the dollar stalled near trendline resistance around 2.0270, potentially forming a right shoulder in a head and shoulders formation on the 4-hourly chart. Price action suggests a move lower back toward the 2-level, with a breach of this neckline paving the way to a possible test of the 1.96-level.

Economic reports from the UK overnight saw inflation figures, with CPI higher to 0.7% reversing a 0.7% decline a month earlier and edging up to 2.5% on an annualized basis from 2.2%. The retail price index (RPI) firmed by 0.8% m/m and 4.1% y/y.

Currencies: Dollar In Free Fall

The developments on the credit markets and the Fed actions in an attempt to stem the systematic risk on these markets continue to hunt the dollar. On Friday, the dollar tried to make a comeback in the morning session inurope, however the high profile events in the US credit markets (Bear Stearns) and the emergency action of the Fed on Friday and over the weekend only made the dollar sell-off to accelerate. EUR/USD already reached now highs above 1.5650 on Friday and the Fed emergency action over the weekend only reinforced the dollar distrust with EUR/USD spiking to new highs at around 1.5900 this morning. This very much looks a panic dollar selling

Today, the US calendar contains the current account, the NY Empire state Manufacturing, the TIC data, the industrial production data and the NAHB housing index. However, the developments on the credit markets and the market reaction at the Fed emergence actions will continue to take center stage today. .

Regarding trading, we have a long standing dollar negative bias and of course still don't feel any need to change this. However, this very much becomes an environment of uncontrolled market moves. The key question is whether the Fed action will be able to stop the bleeding on the credit markets and whether one could expect any coordinated action to stop the fall of the dollar. With respect to the latter, one can not exclude that central bankers will try to prevent more disorderly market moves. However, the question is whether such action has much chance of having long-term success as long as they are not backed by a change in the underlying fundamentals. The latter apparently look further away than ever. So, this very much looks like panic and erratic trading. It's difficult to give any guidance in this kind of trading but the last thing we would try to do is try to catch the falling USD knife now.

Looking at the graphs, the EUR/USD picture was already euro constructive and the break above the 1.4968/1.50 only opened the way for further euro gains. This picture hasn't changed after the (wild) swings of the previous sessions. Over the previous days, we put forward the MT moving average (today at 1.54.00) as our first short-term point of reference. A close below would suggest that there is room for some correction short-term. The fact that the actual rate moves that far away from the average is an indicator of overextended conditions. However, as illustrated over the previous sessions, this doesn't mean that the move can't go on even further. As said, we don't try the catch the falling USD-knife, even if this morning's price action has some kind of exhaustion move characteristics.

A 75bp Fed Cut Seems Guaranteed, But What About The Dollar?

The double dip has come and gone. The dollar has plunged to new lows against many of its major counterparts. However, wading into the action, the most significant moves came on the part of the risk-related, carry pairs: USDJPY and USDCHF. Marking another remarkable milestone for the currency market, USDCHF dropped below parity for the first time in history. For the yen pair, 100 seemed a strong floor that would require a higher power (like BoJ intervention) to produce a significant break or rebound before next week's Fed rate decision.

In the end, all that was needed was the same driver that ushered the pair to its 12-year low over the past two weeks - risk sentiment. US policy makers made yet another concerted effort Friday to right the roiled credit markets. Just three days after announcing the new TSLF program, the Fed was prompted into action once again by the imminent collapse of one of world's largest investment banks. Bear Stearns CEO Alan Schwartz said in a statement this morning that his firm's liquidity position had "significantly deteriorated" from Thursday as investors made significant withdrawals on rumors the firm was facing a cash crisis.

Playing out much like the Fed's bailout of Long Term Capital Management back in 1998, Bear Stearns tapped the Federal Reserve of New York for temporary funding. And, since the broker does not have access to the discount window, the loan was actually made through JP Morgan on Bear Stearns behalf. This was certainly a necessary move as the collapse of a major investment firm like Bear Stearns in these fragile markets could trigger a global market crash. To further bolster confidence in the US markets, the Fed released a two sentence statement stating the bank stood ready "to provide liquidity as necessary to promote the orderly functioning of the financial system;" and President Bush reiterated his confidence in the US economy in a speech in New York. And, while the liquidity injection and assuring words may calm credit market fears, they also practically guarantee a 75 basis point rate cut (or greater) when the FOMC announces its policy decision on Tuesday. Fed funds futures have fully priced in 75bp of easing and set a 60 percent probability of a 100bp cut. If the Fed does lower rates to 2.00 percent, it will only be a mater of time before the market begins to realize the policy group is running out of options to salvage the economy and markets.

What's more, this attempt at securing the stability of financial stability has left the dollar out to dry. This has been the basis behind speculation that global central banks will collaborate for the first time in 13 years to rescue the dollar. The timing of such an effort will be critical.

Swiss National Bank Set To Leave Rates On Hold

The Swiss National Bank will hold its latest quarterly monetary policy meeting on Thursday.

In line with most major central banks, the Swiss authorities are facing the combination of weaker growth and rising inflationary pressure. The bank will also be watching financial-market developments with increasing alarm as the franc continues to strengthen.

Although the evidence is that the pressures are still relatively mild, there will be some unease over the latest ZEW survey release which recorded a further sharp decline to -71.7 for February from -55.6 the previous month

The latest consumer inflation data also recorded an annual rate of 2.4% which is a high figure by the standards of Switzerland.

As well as the rate decision, the updated growth and inflation forecasts for the current year will also be watched closely.

Overall, the most likely outcome is that the bank will leave interest rates on hold and the franc will lose some ground is there is a significant downward adjustment to growth forecasts. The bank may also tae the opportunity to warn against excessive franc strength.

There is a small possibility of an interest rate cut which would weaken the Swiss currency sharply.

Is the Fed Trying to Avoid a 75bp Rate Cut in March?

The Federal Reserve is getting desperate and they are pulling out all of the stops. Minutes after the US trade balance numbers were released this morning, the Fed announced auctions to lend as much as $200 billion in US Treasuries. Yesterday, we indicated that the dollar could rally this week and even though this wasn't the trigger that we had expected, it achieved the outcome.

Whether the dollar will continue to rally is dependent upon tomorrow's retail sales report, Friday's consumer price index and the amount of easing that the Federal Reserve delivers next week. In response to today's announcement, Fed fund futures are now pricing in only a 62 percent chance of a 75bp rate cut, down from 86 percent yesterday and 98 percent on Monday.

Today's plan helps to reduce the Federal Reserve's urgency to lower interest rates, but is that the main reason for their move? Yes and no. Over the past few months, the Fed has been growing increasingly frustrated with banks and their resistance to lend or to offer more flexibility to struggling homeowners. Not only has this hindered the central bank's efforts, but it has also exacerbated the liquidity strains in the financial markets. In response, the Fed is allowing primary dealers to swap their mortgage banked securities for Treasuries to raise cash. If the banks take the bait, the Federal Reserve may be able to avoid stepping up the degree of their rate cuts once again. In late January, the Fed slowed down by cutting interest rates 50bp.

If they have to step up the pace, it would immediately send a message to the markets that things are getting worse and the Fed is quickly losing control. (Will the Fed Cut by 50 or 75bp?) For currency traders, the announcement has been dollar and carry trade positive, but if tomorrow's retail sales report is weak, the dollar could easily give back a significant portion of today's gains.

We expect the volume of retail sales to decline, but with food and gasoline prices on the rise, the value of goods sold could increase which makes forecasting the retail sales report a particularly tough call. Nonetheless, consumer spending is the backbone of the US economy and if it is weak, even the generous move by the Fed today may not stop the dollar from falling.

Dollar Sidelined In Quiet Asian Trading

European Morning Update

Releases from Australia:
Forecast Actual
January Home Loans (MoM) +1.0% +2.3%
February ANZ Job Advertisements +1.8% (prior) - 2.0%
February NAB Business Survey +13 (prior) +11

Asian releases were limited to Australia this morning and were overall mixed. In spite of repeated rate hikes Australians are still borrowing money to buy property. January home loans increased by a robust +2.3% - more than double the forecast of +1.0%.

They appear to be ignoring the global slowdown and also the first decline in Job Ads in 15 months. Further January's figure revised lower by 1.0% to +0.8%. It is hardly a huge problem right now with the annual figure still having risen by a solid 24.4%. However, with expectations that this turndown is probably the tip of the iceberg the year could see a deterioration albeit quite slowly.

And to top that the NAB's February business survey also saw conditions continuing to slowly deteriorate also. At +11 it is still relatively high and the economy is nowhere close to being described as soft but it holds the same message of a slowdown that should continue for the rest of the year.

German Exports Boom as the Euro Appreciates, but Can it Last?

Germany's trade surplus surpassed expectations by nearly 2 billion in January as exports boomed to a 16-month high. Sales abroad grew by 3.8% as German firms saw ample demand in places like Russia and China to offset the slump in the US.

Euro bulls will find it encouraging that this occurred as the single currency tested 1.5000, having rallied some 17% against the greenback in 2007. Six weeks and 400 pips later, the question must surely be if the EZ's largest economy can maintain export growth momentum with the Euro at 1.5400.

While today's result certainly makes a powerful case for the resilience of Germany's exporters, it must also be noted that firms involved in international trade typically agree on a fixed exchange rate as part of the terms of a given deal. This means that it can take some time for the effects of an appreciating currency to be felt by the export sector as contracts expire and deals are re-negotiated. Continued US slowdown and rising energy costs will only add more cloud-cover to Germany's seemingly sunny prospects. If current trends continue to develop along the same trajectory, it seems unlikely that stellar export growth of the sort we saw today can endure much longer.

Euro Hits a Record High but Retreats

The Euro hit a record high of 1.5463 after the US non-farm payrolls report but it ended up retreating almost instantaneously as carry trades came under pressure and news that the Federal Reserve expanded their lending hit the markets minutes after the NFP report. Eurozone economic data continues to be firm with German industrial production rising more than expected.

Unlike the Federal Reserve, the ECB is not particularly worried about the liquidity pressures in the financial markets. Instead, ECB member Weber warned that the markets are underestimating inflation risk. With coffee, corn, rice and other food prices hitting significant highs, we believe that he is 100 percent right. In the week ahead, the two most important releases out of the Eurozone will be the German trade balance and the ZEW survey.

Although economic data suggest that analyst sentiment should improve, this group of critics always tend to lean towards pessimism. Meanwhile the Swiss National Bank has a monetary policy meeting next week. Interest rates are not expected to be changed.

EURUSD Hits New Record High As Data Suggests Economy Already Contracting

The EURUSD has pushed to a new record high in an aggressive rally that is looking to overtake the pair's next, even milestone at 1.5300. Such an aggressive sell off stands in stark contrast to the price action in the overnight where the dollar was trying to slowly regain its footing. This effort was quickly overwhelmed with the onset of the New York session though, when economic data triggered fears suggesting employment would no longer support the vital consumer sector and contractions in the economy's largest sectors confirmed the US was already heading into a recession.

US labor market data for the month of February has thus far sent mixed signals regarding this Friday's non-farm payrolls report. First, the Challenger index of job cuts fell by 14.2 percent from a year ago, suggesting that companies are not reducing their workforces. However, it is worth noting that major components of the services sector (consumer goods, food, entertainment) all showed a jump in layoffs, while government/non-profit agencies showed an even greater surge. Meanwhile, the ADP employment report unexpectedly fell by 23,000 - the first negative reading since June 2003 - as the manufacturing and goods-producing sectors showed net job losses. While the services sector continues to add on workers, it is occuring at a far slower pace and does not bode well for the employment component of the ISM non-manufacturing index due out this morning at 10:00 EST, nor the NFP release on Friday.

In turn, a contraction in employment only adds to the bearish outlook for the US economy that is already teetering on the cliff of negative growth. Following up on the ISM manufacturing guage which reported the sharpest drop in factory activity in nearly four years, its service sector counterpart marked revealed a more concerning turn of events. According to the group's proprietary survey, business among the service base (the largest sector in the US economy) held below the expansionary/contractionary 50.0 reading for a second month; but the indicator's reading was a considerable improvement over the previous month and well above the market's forecast. The 49.3 print was 2 points higher than the official forecast and was a 4.7 point improvement over January's reading which was the worst reading since the 2001 recession. However, this month over month change is less important than the fact that this print marks the first case of a back to back contraction in the service sector since 2002. This adds serious weight to to speculation that the world's largest economy is already in a recession; and we are just waiting for the government's GDP reading to confirm it. From the summary breakdown of the ISM report, there was a number of improvements over the previous month's reading, though many of those components were still contracting. A genuine improvement was noted in business activity and inventories. Production actually rebounded to 50.8 from the incredible 41.9 reading last month. This shift may explain the pickup in inventory and inventory sentiment over the same period - though cooling demand likely had its influence as well. Less impressive were the higher readings from new orders, backlogs and employment which were all still within contractionary territory. The unexpected drop in new export orders to 46.5 was a notable surprise. A cheaper dollar no doubt provided a discount to foreign consumers, but an overall cooling in demand seems to render this reasoning moot.

So, while the EURUSD showed some hesistation in surpassing yet another milestone in 1.5300, the fundamentals clearly leave the doors wide open to further deterioration in the US dollar. Technicals are also calling for continuation in the same direction that the fundamentals are leaning.

Danske Bank's ISM Monitor

Comments on recent development

Following several months of decline, the ISM index saw a rebound last month from 48.4 to 50.7. As we noted in our comment, the comeback was mostly driven by a rise in production due to low inventory levels. As the new orders index remained subdued, the rebound did not seem sustainable.

This month the local indices have moved lower. A weighted average of the local indices suggests a fair value of the ISM of 47.3. On the other hand, inventory levels remain low and the orders data surprised positively in January, when stripping out the volatile components.

Our monthly model forecasts a modest decline to 49.0. Compared to this forecast we see downside risk due to the significant deterioration in the local indices. Consensus expects a reading of 48.0. On a three to six month horizon we predict that ISM will head for a level close to 45.0.

Dollar Finds Some Reprieve On Risk Aversion Though Data Keeps The Pressure On

On a trade-weighted basis, the dollar closed the week at a fresh record low. However, against some of the currency's more aggressive counterparts, the pang of doubt in risk trends helped to keep the greenback from much worse. US equity benchmarks experienced their worst selloff since February 5th after insurer and Dow component AIG reported a massive $15 billion writedown on trouble mortgage securities.

This evidence that subprime losses have spread into more mainstream insurance in turn revived fears of a sustained credit crunch and temporarily saved the dollar from further losses in all its major pairings except the positive yielding USDJPY and USDCHF. If it weren't for the inadvertent assistance from risk trends, the greenback would likely have succumbed to the session's disappointing lot of scheduled economic data. The morning brought the end of the month spending numbers for January; and the readings did little to encourage a brighter outlook for the world's largest economy. Personal income rose 0.3 percent last month to outpace expectations while still cooling from December. A false sense of bullishness from a stronger than expected 0.4 percent increase in spending was quickly snuffed out when the market realized the boost was primarily due to higher prices and not greater volume. Further complicating the issue, inflation reported by the PCE deflator accelerated to its fastest pace in over two years. Irrational fears of stagflation are looking less absurd.

The rest of the session was reserved for the Chicago Purchasing Managers Index and final U. of Michigan consumer sentiment survey, both for February. The confidence gauge was revised slightly higher, though it was unable to shake 16-year lows. Equally concerning, the Chicago manufacturing report plunged to its lowest read in 5 years. Along with Empire, Philly and Richmond Fed indexes, this Chicago report promises a very week ISM reading on Monday. For the rest of the coming week, the fourth quarter mortgage delinquencies will asses the full damage in the lending market, but the market's true interest will lie with the expected 25,000 rebound in February NFPs.