The Pressure on the US Dollar

The currency market has been exceptionally quiet over the past few days with the EUR/USD and USD/JPY confined within a tight trading range. This range however was broken today as the EUR/USD came within 50 pips of its record high. Although there was no meaningful US economic data released, the move in the dollar represents the pressure that the market expects to fall upon the greenback over the next 24 hours.

The European Central Bank and the Bank of England have monetary policy announcements. The former is expected to keep rates unchanged while the latter is expected to lower them. However for the US dollar, the relative dovishness of the Federal Reserve may be the most important. The minutes from the last FOMC meeting reveals a divided Fed that is concerned about both growth and inflation. Although from here on forward, the Fed could slow down their degree of easing, the ECB's reluctance to cut interest rates and the BoE's own internal struggles (read the EUR and GBP sections for more details) could keep pressure on the US dollar.

Furthermore, the US trade balance could also turn out to be dollar negative. Even though the greenback has weakened significantly, which should help to narrow the trade deficit, manufacturing ISM also slipped that month which suggests that the contribution may have been limited. There are still a lot of inherent problems in the US economy.

We have previously warned of a further deterioration in the US labor market, but more immediately, US retail sales are expected to be released on Monday. With Linens ‘n Things joining Domain, Fortunoff, and Sharper Image in filing for bankruptcy protection, there is a decent chance that consumer spending could contract for another month. Crude oil and gasoline prices have also hit a record high which will take a toll on the pocketbooks of nearly all Americans. It may not be long before gas prices hit $4 a gallon across the nation. Read Full Post

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.

Read Full Post

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. Read Full Post