Thursday, February 21, 2008

Bob's Currency Focus - 17:30 GMT

Another shocking set of economic reports from the US Thursday has seen the dollar on the defensive and pushed the pair above the 1.48 price handle. The Philly Fed business index for February printed at -24 against a forecast -10 and it suggests next week’s ISM national manufacturing index could contract, i.e. return a reading of less than 50. Gold hit a new milestone of $950 today and with oil trading at $100 it signals major funds are being stockpiled on traditional dollar hedges. If the dollar continues to depreciate, inflation is going to become more of a problem in the US and stagflation will grow to more extreme levels. The Fed (from the minutes released yesterday) is interpreted as having gone soft on inflation and the FOMC is expected to continue to cut interest rates, even against a backdrop of rising inflation. The euro is now just 1.5 cents away from the lifetime high but it is difficult to see the single currency having a chance in taking out 1.50 in the absence of major data releases or key monetary policy announcements. There are no further data releases in the US this week. But the euro has a risk event of its own Friday, when the preliminary PMI readings for the area’s manufacturing and services sectors are released. If either reading comes in below 50 (contracts), the immediate theme will shift from US interest rates to euro growth and the euro will likely encounter heavy selling pressure. The euro looks inflated in value at any price above 1.48 as it is and it offers a live sell-down opportunity - the euro’s invincibility is much less now than it was when the currency previously occupied these lofty heights. Strategy: Sell EUR/USD on prices above 1.4820 with downside limit prices of 1.4750, 1.4710, 1.4670 and 1.4620.

Sterling earned a stay of execution thanks to a firm retail sales reading for January – sales rose 0.8% on the month against the 0.2% forecast. When one looks into the detail, the headline number was less impressive as shoppers were enticed into buying through aggressive discount campaigns operated by retailers. Nonetheless the report does suggest the Bank of England may not cut rates at their March meeting, although there are still some key economic releases between now and the next meeting in a fortnight’s time. Sterling has risen 2 cents against the dollar today, but only made a modest 0.25 pence gain against the euro. If the dollar’s demise continues though, the pound has plenty more scope to the upside against the greenback than the euro has, something which might benefit the UK currency against the euro in the coming days. But risk aversion looks to be on the rise this evening on the US session and cable will struggle to make it much past 1.9650 in this environment. I remain bearish on sterling and prefer to sell down cable on prices close to 1.9650 with limit prices of 1.9550, 1.95, 1.9440 and 1.9380.

I said yesterday the Philly Index was the last major event risk for USD/JPY this week. The Index printed much worse than expected and has again raised fears the US economy may be in recession. The sharp dollar sell-off has seen the dollar retreat 100 points from the high of Y108.31 recorded this morning. The yen needs a sustained sell-off on Wall Street this evening if it is to hold or even extend these gains. The Japanese currency is virtually unchanged against the euro today while it is down 0.4% to the pound. The best value continues to be on offer against the euro which is trading just above Y159. It is difficult to see the euro sailing past Y160 in a recessionary environment and after a few weeks in recovery mode, we could soon see reversal to the downtrend for this pair. Strategy: Sell EUR/JPY on prices close to Y160, with limit price targets of 158.80, 158, 157.50, 156.80 and 155.50.

A second successive day of gains for the loonie against the greenback, although trading has been choppy and directionless, so the pair could yet settle anywhere before the close later today. There was no data out in Canada but US data printed negative and the loonie benefited from a broad dollar sell-off. The loonie was also aided by a further rise in commodity prices with extreme price levels being breached on a number of the metals Thursday - Canada is one of the world’s largest exporters of both precious and industrial metals. If the loonie can manage to hold the greenback below 1.01 to the close, a strong retail sales report Friday could give the loonie a final opportunity to retake the parity line ahead of the Bank of Canada meeting on March 4. It is unlikely the loonie will attract significant buying support the closer we get to that key interest rate decision. The loonie should also have earned muscle today from the transfer of this month’s oil contract funds, i.e. conversion of $US oil revenues for Canadian oil companies into Canadian dollars. The risk for the loonie remains very much to the downside over the next 10 days, with sharp moves likely if Canadian economic data prints weak. Overall there is the prospect of a USD/CAD rally to at least 102.20 within the next few days. Strategy: Buy USD/CAD on dips to 1.0080 with upside price limits of 1.0135, 1.0170, 1.0195, 1.0215 and 1.0245. Warning: an upside surprise in Friday’s retails sales numbers will spark a loonie rally.

Bob B - Feb 21

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