Wednesday, January 9, 2008

Bob's Currency Analysis - 18:00 GMT

The euro came off somewhat against the dollar in trading Wednesday, but the pair remains contained within the 1.4650 to 1.4750 price range. Predominantly negative data out of the euro area this morning kept the euro in check, even though Quarter 3 GDP for the single currency zone was revised up to 0.8% on the quarter, from 0.7%. Quarter 3 GDP however is ancient history at this point and has little bearing on present events. German retail sales fell a disappointing 1.3% in December, having fallen by a revised 2.3% in November and this data only serves to highlight the fact that consumer spending in the euro area is largely depressed at present. To cap a mostly depressing day for German data, industrial production output in November is reported to have dropped by 0.9%, with the manufacturing output component also falling by 0.9%. Germany’s trade balance in November did widen to €19.3B, but France reported a trade deficit of €4.8B in the same month. The softer data is unlikely to have much of an impact on the ECB, which is expected to relay the familiar mantra tomorrow about concerns on price stability and inflation. This will protect the euro in the short-term, although if the ECB surprise and offer a more sobering dovish assessment Thursday, the euro will come under serious pressure. There is no US data out today but the current spikes in oil and gold prices (fuelled primarily by itchy hedge fund investments) will keep the dollar on the defensive for now. The growing probability of a US recession and sharper than expected global slowdown could lead to a sharp fall in commodity prices at any time, once the consequences of what a major slowdown means for industrial resources finally sinks in. A sudden fall in commodity prices could potentially trigger a sharp appreciation in the dollar. For now it is best to await the ECB before venturing in on EUR/USD. Strategy: Wait until after the ECB Press Conference (Jan 10 - 13:30 GMT).

Sterling fell by more than I would have expected Wednesday with the currency being abandoned ahead of a key rate announcement by the Bank of England this Thursday. The Nationwide Consumer confidence survey dipped to its lowest level since last February in December while the BRC shop price index for December reported a mere 1% annual increase in prices in December. Recent soft data has increased speculation of a Bank of England rate cut tomorrow and I put the chances at 70:30 in favour of a cut. The pound has sold off very heavily in the past week and caution is required because all the technical charts show the currency as significantly oversold, primarily against the dollar and the euro. 1.98 was a good price to enter the market on cable yesterday and anyone short on sterling at the moment needs to remember sterling took a bounce after the last cut in December and a similar occurrence is possible tomorrow, given a cut is effectively fully priced into the market. If the Bank of England does not cut rates, expect a strong rebound for sterling, while in the unlikely event of a shock 50 basis points reduction tomorrow, expect cable to fall to 1.93 before the end of the week. The euro offers no value at current price levels against sterling and indeed the euro could sell off significantly against the British currency on Thursday, if the ECB come out more dovish than anticipated, even if the Bank of England does cut UK rates by 0.25%. Strategy: Wait for bounce in cable and sell at prices above 1.9750 with limit price of 1.9550. Wait until after Bank of England announcement and stay out of market if rates are kept on hold Thursday. We will reassess EUR/GBP after both Central Bank events tomorrow.

The yen retreated modestly today despite the fact European stocks closed sharply lower and Wall Street again stutters along. There was a sell-off overnight when Asian stocks rallied against the odds, following a sharp decline on Wall Street Tuesday evening. There is particular unease at the yen’s recent appreciation in some quarters and Japanese exporters are stepping in to sell the currency. The euro fell to Y160 late Tuesday, before bouncing to Y161.50 this morning, but the euro has since struggled and the pair is trading at Y160.50 at 18:00 GMT. A decisive break below Y160 could prove important and could lead to a more dramatic sell-off of EUR/JPY positions, especially if there is a dovish sounding ECB on Thursday. The yen is down 0.35% against the dollar Thursday, but is well positioned to send the dollar back towards 108.50 if risk aversion levels intensify later this evening. There was no economic data out of Japan overnight and the Japanese currency’s direction this week will be determined by risk tolerance levels and events surrounding both European Central Banks on Thursday. A rate cut from the Bank of England and a dovish ECB could spark a rally in stock markets and lead to a broad-based sell-off of the yen. The Japanese currency is currently overbought against the dollar and offers no value against it and the wiser strategy might be to wait and then sell the yen against the euro and dollar once stock markets settle and risk tolerance levels climb. Strategy: If Wall Street closes higher (Dow up by more than 0.5%) Wednesday, buy EUR/JPY and set limit price of Y163. Otherwise wait.

The loonie remains our favourite sell and we are concentrating solely on USD/CAD, which to our mind has the greatest upside potential of any of the major currency pairs in the coming months. The greenback has managed to break above the key 1.0080 resistance level Wednesday and needs to close above this price today if the upside momentum is to gather pace. Canadian Housing Starts in December fell rather sharply but this probably has more to do with intemperate weather conditions than anything more meaningful. The key data for the loonie this week comes on Friday with December’s Employment Report and November’s Trade Balance both due for release. The loonie has been protected this week by stubbornly high commodity prices but comments yesterday from the Bank of Canada that downside risks to inflation have risen in recent weeks has served notice that the Bank of Canada has scope to cut interest rates when they meet in a fortnight’s time. If you followed my advice yesterday, you should have got out with close to an 80 pip gain if you exited at 1.0060. If you have stayed in, I would be inclined to take profits at the 1.0130 price, ahead of 1.0190 and 1.0220. Buy on any dips below 1.0030. If in for the long-term, keep S/L at 0.97 and our ultimate longer-run price target remains 1.05 for now.

Bob B - Jan 9

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