Wednesday, February 6, 2008

Bob's Currency Focus - 18:00 GMT

It is more a case of as you were for this pair Wednesday with traders reluctant to push price too far in one direction or the other ahead of a key ECB rate setting meeting Thursday. The euro has managed to rally to 1.4670 from a low of 1.4592 during the European session, but has since fallen back to 1.4630, around where the pair closed last evening. US productivity slowed sharply in quarter 4 although it did print higher than expected while unit labour costs for the quarter came in lower than forecast, something which will dampen immediate inflation concerns and make it easier for the Fed to cut rates further. US stock markets have rallied this afternoon and we have seen a modest return in risk appetite. It will be difficult for markets to simply erase the memory of Wednesday’s ISM survey (reporting the first contraction in the services sector for 4 years), and any immediate rebound in stocks is likely to attract fresh selling pressure. The euro will bounce back on Thursday if the ECB retains its hawkish bias. The President of the ECB delivers the Central Bank’s policy statement at 13:30 GMT. The Bank is certain to keep rates on hold and we could see the single currency drift ahead of Jean Claude Trichet’s statement, with many euro long positions coming off the table for fear of some softening in tone from the ECB. I however will not be surprised if the ECB maintains its fim inflation bias, particularly given inflation rose to 3.2% in January. Remember most members of the council are confirmed hawks. If the ECB retains its tough stance, the euro could quickly take off and we could be back above 1.48 by Friday. If they do surprise and prepare markets for a possible future rate cut, the euro will undergo a significant sell-off. We need to wait for the actual outcome Thursday before entering the market but if we do get the same hawkish stance, the euro should be bought with upside price limits of 1.4660, 1.4720, 1.4760 and 1.4810.

Sterling held steady Wednesday as markets believed the currency sold off sufficiently ahead of the Bank of England rate announcement tomorrow. On the domestic data side, consumer confidence plunged further in January according to the latest Nationwide Survey while the British Retail Consortium reports shop prices rose marginally in January to an annualised 1.2% rate, against a 1.0% rate in December. Cable has traded around the 1.96 price level all day but there is a good chance of a dip to 1.95 before the MPC delivers its policy decision at 12:00 GMT Thursday. Markets now expect a 25 basis points cut, but if the Bank surprises and delivers an aggressive 50 basis points, sterling will fall sharply and cable could revisit the year’s low at 1.9337 later Thursday. If the Bank does not cut tomorrow, any bounce we may immediately see in sterling will prove to be short-lived, as markets will become more firmly entrenched in the opinion the Bank is well behind the curve. Rallies to 1.97 between now and tomorrow morning are worth selling down with limit prices of 1.9550 and 1.95 being realistic targets. After an initial spike downwards, expect sterling to bounce in the aftermath of a 25 basis points cut. The fate of sterling against the euro will very much depend on the ECB Thursday, moreover the Bank of England. A more dovish sounding ECB could see sterling appreciate sharply against the euro (if the bank of England delivers a 25 basis points cut), with the chance of a euro retreat to 0.7350 by Friday, whereas a hawkish ECB should see the single currency move back towards 0.7550. I remain bearish on sterling in the medium term, but the best short-term opportunities may have already passed. Strategy: Sell cable on any rallies towards 1.97 with limits prices of 1.9550 and 1.95. Aim to exit trade before the Bank of England announcement.

The yen has held most of its gains from Tuesday with carry traders reluctant to move to the Japanese unit as a funding currency following the volatile trading session witnessed Tuesday. In domestic news, Japan’s leading indicators rose to a reading of 40.0 in December, up from a lowly 18.2 in November, meaning that although economic outlook is seen in a more optimistic light than the previous month the pace of growth will remain stagnant (denoted by the index coming in below the 50.0 boom or bust line). The yen could sell off late tonight against the dollar and the euro if Wall Street rallies strongly to the close, but any losses incurred by the yen should be limited because of the broader negative sentiment that still abounds. The Aussie and New Zealand dollars have held most of their gains from last week against the yen despite the sharp dip in market sentiment this week, but another night of misery for stocks should trigger a significant bout of selling on AUD/JPY and NZD/JPY. Strategy: Sell USD/JPY on any rallies above 107.70 with target prices of 106.80, 106.50 and 106.20. Place a stop loss above 108.10. Do not trade EUR/JPY ahead of Thursday’s ECB meeting.

The loonie declined this morning but came back strongly this afternoon to be the best performer of all the major currencies on the day, gaining 0.4% against both the euro and the greenback and 0.6% against the yen. The modest bounce in equities was sufficient to drive the loonie up, although the currency was aided by a better than expected IVEY PMI survey for January which suggested business activity in Canada expanded following a month of contraction in December. The IVEY survey is renowned as a hopelessly inaccurate guide for gauging economic performance, but in the current climate all good news is worth taking and also it won’t have been lost on traders that the Canadian dollar fell by over 1% when news of a contraction in the IVEY index was reported last month. Building Permits in December rose 0.4% against a forecast decline of 0.5%, but this data had little market impact. The next key release for the loonie is this Friday’s employment report and the outcome may well determine the direction of USD/CAD for the remainder of the month. A further rise in risk aversion later today or tomorrow should see the loonie retreat and key resistance in the 1.0120 price range could come under threat. Otherwise we may see the loonie send the dollar back below parity and quickly descend upon that critical 0.9920 price level, where price has stalled 3 times in the past week. I am still bearish on the loonie but am not inclined to enter the market until the greenback firmly establishes itself back above the parity line. Anyone currently long on EUR/CAD in a short-term context should aim to exit their positions ahead of the ECB policy statement at 13:30 Thursday, as this is a high risk event, which could go the wrong way.

Bob B - Feb 6

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