Bob's Currency Focus - 16:00 GMT

EUR/USD
The euro came off a little Friday, following an unprecedented rally of over 3.5 cents on the previous two days. The pair has spent most of the day hovering close to the 1.47 line, the single currency in decline, having failed to breach resistance up at 1.4780. There has been little in the way of meaningful economic data Friday and traders are now positioning themselves ahead of next week’s Federal Reserve meeting on Wednesday. Legitimate questions about the wisdom and necessity behind this week’s emergency rate cut in the US remain unanswered and Ben Bernanke’s already fragile credibility is coming under increasing scrutiny. The panic sell-off Sunday night and Monday of $60 billion of stock indices futures by the French Bank Societé General (the employer of rogue trader Jerome Kerviel) is reported by much of the media today as having been a major contributory factor to Monday’s mayhem on global stock markets. Any hint of a link between this and Ben Bernanke’s decision the very next day, to suddenly cut US interest rates by the highest margin in history, is sure to be the stuff of legends and no doubt will be transformed into a blockbuster movie in the not too distant future. The US economy is either in recession or it is being talked into recession by the Fed and it will be most interesting to see what the FOMC have to say in their statement next Wednesday. Next week also sees the release of the latest US employment data and if this report prints positive, against the backdrop of a further rate cut next week, Mr Bernanke will stand accused of serving Wall Street’s immediate interests ahead of the longer-term interests and sustainability of the US economy.

Bernanke will be damned if he does and damned if he doesn’t next week and as financial markets are expecting a further 50 basis points cut, it will be a surprise if the Fed does not deliver. It may prove more beneficial in the longer run were rates to be kept on hold on Wednesday, because to cut rates to 3% now is going to leave the Fed with very little charge left in the battery to face the challenges in the months ahead. The euro will have its best chance of reaching the coveted 1.50 price handle next week, although there will possibly be reluctance to force the price through until traders see what the Fed decides. Strategy: buy euro on dips towards 1.46 with upside limit prices of 1.4720, 1.4770, 1.4820 and 1.49. We will look at the lie of the land again Monday.

GBP
Sterling has had its best week of the year by far, gaining 3 cents against the dollar and half a penny against the euro, while the sterling crosses on the yen and Swiss franc have also done very well. There was no data out of the UK Friday but the pound uses its current momentum to push the pair to the key 1.9850 price level. A strong close near to this price Friday could see sterling rally to the 2 dollar line next week, with the dollar likely to be lightly supported ahead of the Fed’s rate decision on Wednesday. There is scope for a possible move to 2.01, the high breached just before the New Year, but cable’s fortunes depend as much on risk aversion levels remaining contained as they do on a defensive dollar. I am still bearish on the UK currency and am reluctant to buy it at all and prefer to wait for the best time to sell. Once the attention shifts after the Fed next week, the focus will very much be put on sterling again and the currency is going to come under selling pressure, particularly if economic data remains soft and with the Bank of England most likely to cut rates at its February rate setting meeting. I prefer to stay away from cable until after the Fed rate announcement. The euro dropped to 0.7408 today and there is the potential for a fall to 0.7350, if stock markets remain robust up to next Wednesday and the appetite for high yielding currencies remains high. Strategy: Stay on sidelines until after Fed meeting, but if risk aversion levels do rise again stock markets decline sharply), sell down on prices from around 1.98 with limit prices of 1.97, 1.9660 and 1.9580. Trade with a stop loss just above 1.9850, because if that price gives, cable could quickly move to the 2 dollar line.

Yen
The Japanese currency has had an up and down day, losing heavily earlier in the session but rebounding as European stock stumbled to the close. Traders are now quick to offload the low-yielding yen which is hampered by the prospect of a further Fed rate cut next Wednesday, leading to carry traders exchanging the yen for higher yielding currencies like the pound, Australian and New Zealand dollars. The euro bounced back to Y159 early in the European session, an extraordinary turnaround given the pair had fallen to Y152 twice this week. They yen has found some support at the Y108 level against the dollar, but if this price gives way, either today or early next week, we could see Y110 reached by next Thursday, if the Fed does cut rates again on Jan 30th. We could also see a total capitulation of the Japanese currency next week, across the board, if stock markets remain stable and risk appetite intensifies. EUR/JPY is likely to reach Y160 by the middle of next week, but entering the market at the current price is not without risk, given the still fragile sentiment on global markets. There is however never a shortage of takers of risk when it comes to shedding the yen, when market conditions stabilises, so it is certainly worth buying the euro against the yen when prices move to extremes (close to Y152), as it is the dollar (when the dollar falls close to Y105). Strategy: Buy EUR/JPY on dips towards Y155 – Y156, with upside price targets of Y158, Y159 and Y160.

CAD
The loonie advanced by 2% against the US dollar Thursday, on a day when there were no economic indicators released and following a report published by the Bank of Canada, which downgraded its growth outlook for 2008 to 1.8%, from the 2.5% forecast last October. While there was general greenback weakness Thursday, the loonie’s appreciation is difficult to understand because the currency also advanced by 1% against the euro and by more than this against most other leading currencies. Friday’s inflation data was softer than expected with the Bank of Canada’s core inflation rate falling to 1.5%, the lowest reading in 2 years and gives muscle to the Central bank to further cut interest rate in the months ahead. This would normally be damning for a currency and see it go into freefall, but not the loonie today. Having retreated for a 5 minute period, the currency was soon trading at the point at which it was at just before the print. There are some of those mysterious forces we have seen before resurfacing and driving the loonie in recent days and the currency has suddenly grown decidedly bullish. The loonie is now trading over 3 cents better against the greenback than where it was on Tuesday around the time of the Bank of Canada announcement. There is a determined push to drive the pair to below parity once again and with the dollar likely to be vulnerable next week with the Fed expected to cut rates once more, this will widen the rate differential even further in favour of the Canadian dollar and USD/CAD bears may be able to force price down towards the 0.9756 price level seen over the Christmas holiday period. Strategy: I remain bearish on the loonie but I’m holding off on going long until I see the current correction bottom out. EUR/CAD looks to offer value on prices close to 1.47, although there is danger right now because if the loonie breaks below the parity line against the US dollar, the euro could possible fall to 1.45 against the Canadian currency by the middle of next week. If you have long-held positional trades on USD/CAD, you will need to bring your stop loss to below 0.9750. Next week could be a rollercoaster but the event calendar looks to favour the loonie, although it should also bring to a conclusion the loonie’s current burst of strength.

Bob B - Jan 25

Bob's Currency Focus - 17:00 GMT

Risk tolerance levels have risen appreciably today with traders prepared to buy into the high yielding currencies en masse, although significantly the yen has held its value against the dollar. The dollar has pretty much collapsed against every other major currency however, with a rise in equities equalling a license to sell the dollar. We have witnessed an aggressive bout of dollar selling Thursday, with the US currency falling broadly across the board, particularly against the Canadian dollar which has been on the rampage for most of the day. Stock markets in Europe are higher by 4%-5% on average as buyers frantically try to get a piece of the action, following heavy losses earlier in the week. The US currency is now a significant target on yield grounds – offering a mere 3.5% yield and with the Fed acting in isolation to calm markets and expected to cut rates again next week by a further 50 basis points, the dollar is very vulnerable. The dollar’s best hope of defence is if risk aversion levels remain high and stock markets resume their decline. It is a sad situation when a country’s currency is only seen to be of value when global share prices nosedive, but that is the very real outcome of the Fed’s policy of acting so aggressively and acting alone. The ECB and the Fed are poles apart in their line of thinking, as confirmed by ECB council member Alex Weber today, who stated it was ‘wishful thinking’ to believe the ECB might contemplate cutting interest rates. Markets remain fragile however and a spark either way could trigger further volatile periods that could send currencies sharply in either direction. The commodity currencies are particularly susceptible to sharp moves, given they have already recouped all the losses incurred earlier this week.

EUR/USD
The euro has pushed back above 1.47 for the first time this week and having broken through resistance at 1.4720, seems poised to reach the 1.48 and set itself up for another challenge of the lifetime high, which is currently at 1.4966. Few people are going to wish to buy the dollar ahead of the Federal Reserve’s second rate announcement in a week next Wednesday, and the only downside risk for the euro is a capitulation on stock markets which leads to a flow of ‘safe haven’ funds back into the dollar. Germany’s important Ifo business sentiment index came in higher than expected in January and higher than the previous month’s reading, meaning increasing talks of a US recession and a soaring euro is certainly not yet denting business confidence in Europe’s largest economy. Us economic data out Thursday showed jobless claims fell to a 301K last week 20K better than forecast, while existing home sales declined further to a 4.89 million rate in December against a forecast of 4.95 million. There is no market-moving data out Friday and direction will be dictated by sentiment, which remains dollar negative, unless there is a sharp decline in equity prices. Strategy: Buy on dips towards 1.46, with upside price targets of 1.4720, 1.4750, 1.4815, 1.49 and 1.4930. Keep on eye on the Wall Street industrial averages and if there is a major decline, do not enter the market.

GBP
The pound has had a solid day, rising over 0.8% against the dollar and virtually unchanged against the euro. The only economic data out of the UK Thursday was the BBA mortgage approvals number for December, which fell to 42,100 from a downwardly revised 43,900 in November. This didn’t matter on a day when markets were driven by risk appetite for high yielding currencies, as global stock markets rebounded from their heavy losses earlier in the week. Sterling is also supported by a stronger than expected quarter 4 GDP number, released Wednesday, and a hawkish set of minutes from the Bank of England, where it emerged only one committee member voted for a rate cut in January, with the other 8 voting to stand pat. If stock markets do settle through the remainder of the week, sterling should be able to extend its rally against the dollar, ahead of next Wednesday’s Fed rate announcement. I remain bearish on cable but do not believe it worth the risk entering the market ahead of next week’s Fed meeting, at which time rate differentials are likely to widen again. We should see sterling rise to take on 1.9850, which is the key dollar resistance point below the 2 dollar line. If risk tolerance levels are sustained, sterling has the potential to push the euro back to the 0.74 pence line in the near-term. Strategy: remain on sidelines for now.

Yen
The Japanese currency has predictably retreated Thursday with risk aversion on the wane after stock markets surged over the past 24 hours. The yen has held its own again the greenback and the pair is currently trading at much the same price at which it closed Wednesday. Japan’s trade balance narrowed for a second straight month in December, hinting the sharp appreciation in the currency over recent months is having an adverse impact on the country’s exporters. The fortunes of the currency are totally dependent on market sentiment and risk aversion, but if the recovery staged over the past 24 hours persists to the start of next week, the yen will come under tremendous pressure on the carry trade side, with high yielding currencies having the most to benefit from a further rate cut from the Federal Reserve next week. The euro has soared to 157.70 against the yen, meaning a gain of over 500 points since Wednesday. There is no value in buying the yen in the build-up to the Fed meeting, given the underlying risks. There look to be some value in buying AUD/JPY on any dips to below Y92.50 as this pair might easily sail towards Y96 by the middle of next week.

CAD
The loonie has had a remarkable day, even by its standards. It has risen an extraordinary 1.4% against the greenback today and despite the Bank of Canada having cut rates on Tuesday and hinting at further rate cuts, the Canadian dollar is now trading almost 3 cents below the levels it had fallen to on Tuesday. I did state on Tuesday I had a fear the pair were destined for a correction back to 1.0180 or perhaps 1.0050. With risk tolerance levels at fever pitch only 24 hours after the world was apparently going to collapse, the omens do not augur well for the US currency in the build-up to next week’s Fed meeting. There are two events that can save the greenback from an imminent fall back below parity 1) stock markets slump tonight and tomorrow and the rise in risk aversion sends the loonie packing or 2) Friday’s consumer price data out of Canada is soft to the point of being worrying for the Bank of Canada and suggest a 50 basis points cut might be on the cards at February’s meeting. Once next week’s Fed is out of the way and prices have settled and stabilised we should see resumption to the uptrend. The Fed’s shock 75 basis points cut this week has really derailed us bulls to some extent, but we need to be patient, bide our time and wait for the right opportunity to re-enter the market. Those positional traders long on USD/CAD will just have to sit it out, but stops should be returned back below 0.9750, because bears are setting up for an attack on the parity line. Strategy: wait for further directional clarity. A soft core inflation number out of Canada Friday (< 1.5%) is a signal to buy, with a target back above 1.0180 and then 1.0220.

Bob B - Jan 24

Market Watch: Central Banks, Outlook and the Decoupling of Responsibility

The emergency cut in the Fed Funds rate by a record 75 basis points Tuesday may not have surprised Wall Street traders, but it is important to note the Federal Reserve is the only major Central Bank that has responded directly and actively to the recent credit crisis and the widespread demise in global stocks. The Bank of Canada did also cut rates Tuesday but this was expected by markets and that decision came out of a prescheduled monetary policy meeting. It is obvious the only reason the Fed acted when it did on Tuesday was to try to avert the type of carnage on Wall Street which had engulfed European and Asian stock markets over the previous 36 hours, when US markets were closed for a holiday. There was no new economic data available to the Fed since Mr Bernanke spoke on January 17, which begs the question as to why the Fed felt it had to act ahead of its regular policy meeting, scheduled for next week. The move Tuesday appears to have been a huge gamble and if it fails to prevent a major sell-off of stocks over the coming days, it will go down as one of the greatest ever blunders by a major Central Bank. The surprise action will have spooked many investors who believe such a drastic move would only be taken if the US economy was already in a recession or on the brink of a catastrophic market crash.

The pre-emptive action will not have gone down well with other Central Bankers who identify the Central Bank role as one of chief policymaker to protect an economy from the adverse effects of inflation/deflation. In the world of the ECB and Bank of England, economic growth stems from sound monetary policy decisions, which in turn are made in the pursuit of inflation control. It is true that the other Central Banks, primarily the ECB and the Bank of England do not share the experience of the Federal Reserve when it comes to averting economic disasters, but the key differential between the two views is that the Fed deems itself to have a dual mandate, one for stimulating economic growth and the other for curbing inflation, while the ECB and the Bank of England are focused exclusively on inflation control / price stability. The ECB in particular are polarised in their thinking and have not wavered in their hawkish stance despite the recent turmoil. The Bank of England for their part are a reactive force and have a history of acting slowly when it comes to making key monetary policy decisions. The UK economy is adjudged by many to be facing much the same economic challenges in 2008 as the US, yet the Bank of England has only eased 25 basis points in recent months against the 175 basis points from the Fed. This is an even more startling difference when one throws into the equation the fact that headline consumer price inflation in the UK in December was running at an annual rate of 2.1%, against a dangerously high 4.1% in the US. The UK also started the current easing cycle at a higher rate of interest than the Fed funds rate – 5.75% Vs 5.25% and with rates now at 5.50% Vs 3.5% respectively, the differential has grown from 0.50% to 2.0%. Clearly the Fed and the Bank of England have very differing views on inflation outlook for this year and while the Fed is prepared to gamble and be aggressive during a period of rising inflation, believing inflation will soften, the Bank of England is not. A major problem for the Fed is that if does acts alone, the aggressive shift in interest rate differentials will see the dollar’s demise extend, imported inflation rise and see the US fall into an a protracted period of stagflation (inflation exceeding growth), something that will terminally damage the economy.

Let us look at the major Central Banks and examine their current policy:

FOMC
Chief: Ben Bernanke
Current Interest Rate: 3.5%
Interest Rate in September 2007: 5.25%
Change since September 2007: -1.75%
Responsibility: ‘attainment of long-run price stability and sustainable economic growth.’
CPI Rate Dec 2007: Headline: 4.1%, Core: 2.4%.
GDP in latest quarter: 4.1% in Qtr 3 2007

Kudos for:
Only major Central Bank to actively respond to major credit crisis which unfolded last August and dropped its key interest rate to 4.75% in September. The Fed was alert to poor economic data out of the US in the final quarter of 2007 and cut rates by 25 basis points in both its October and December meetings. Prevented a stock market crash on Jan 22, bringing forward an interest rate decision by a week, when it announced a cut of 75 basis points in the Fed Funds rate, the largest single-day cut in history.

Marks against:
Accused by many of not having been proactive enough and should have cut interest rates much sooner to stave off the threat of a recession. Inflation is rising at a time when the Fed is easing rates aggressively and Bernanke stands accused of largely ignoring the growing inflation risk. The Fed delivered large rate cuts in September (50 basis points) and January (75 basis points) in response to major dips in stock market prices, as opposed to specific dips in economic data and many see the Fed as the custodian of Wall Street, moreover Main Street. Current Fed policy seen as an irresponsible attempt to force short-run economic growth at the expense of long-run sustainable economic growth which is the Fed’s actual remit. Current asset bubble and credit crisis is the Fed’s own baby in the sense it was born out of the last major set of aggressive interest rate cuts from the FOMC back in 2001, when rates fell to 1%, leading to cheap money and complacency on the part of lenders.

What to expect from Fed in 2008: Rates could now go as low as 2.50% by the March meeting and it will then be a wait and see policy from the Fed to see if the gamble pays off, although having pared off most of the interest rate already by then, the Fed will have little in reserve. Will be due most of the credit if US avoids a recession but will have a massive credibility issue hanging over it, if inflation continues to rise in the coming months and the economy moves into a prolonged slump.

ECB
Chief: Jean Claude Trichet
Current Interest Rate: 4.0%
Interest Rate in September 2007: 4.0%
Change since September 2007: 0%
Responsibility: Price stability and to support a "high level of employment" and "sustainable and non-inflationary growth".
CPI Rate Dec 2007: Headline: 3.1%, Core: 1.9%.
GDP in latest quarter: 2.7% in Qtr 3 2007

Kudos for:
Market always knows where the ECB stands on policy and the press conference after each monetary policy meeting is both direct and informative. The ECB sticks to its mandate and is thus far unwavering in pursuit of its policy objectives in the face of pressures from politicians and financial markets. Has kept inflation firmly anchored in the euro area (to the last quarter of 2007) and in the past two years has overseen a period of sustained economic growth for a diverse group of 13 (now 15) nations. It quickly poured funds into markets to shore up liquidity during the financial market crisis last August.

Marks against:
Does not see stimulation of economic growth as its responsibility and it is currently threatening to hike interest rates at a time when the euro economy is slowing. The ECB doesn’t take an official vote when deciding on monetary policy and markets don’t know the extent to which views vary on the monetary policy committee. The ECB has done little or nothing to alleviate the ‘crisis’ that has plagued financial markets since the turn of the year. The ECB helped to make money cheap (interest rates were just 2% up to December 2005) something that has led to the asset bubble which threatens current economic stability.

What to expect from ECB in 2008: Will most likely keep rates on hold for the first quarter but inflation may ease sharply if the global slowdown takes root, thus opening the way for a rate 0.25% cut during the second or third quarter. Likely to have underestimated the potential slowdown in euro growth and will stand accused of not having acted soon enough, although the ECB will claim their only remit was to control inflation.

Bank of England

Chief: Mervyn King
Current Interest Rate: 5.50%
Interest Rate in September 2007: 5.75%
Change since September 2007: -0.25%
Responsibility: 'Monetary stability meaning stable prices - low inflation - and confidence in the currency.'
CPI Rate Dec 2007: Headline: 2.1%, Core: 1.4%.
GDP in latest quarter: 3.1% in Qtr 3 2007

Kudos for:
Presided over a sustained period of remarkable growth in the UK economy. Managed to drive UK inflation down from a 3.1% headline rate this time last year to the Bank’s target 2.0% rate in the Autumn and has since managed to keep UK inflation anchored, when consumer prices were significantly on the rise elsewhere because of the spike in energy and food costs.

Marks against:
Generally reactive and very slow to adopt a policy change. The inflation problem in late 2006/2007 had much to do with the Bank’s original failure to act soon enough, when growth began to expand from early 2006. The Bank handled the whole Northern Bank fiasco (first run on a UK bank since the 1800s) abysmally and this episode greatly tarnished the Bank’s reputation and the reputation of its Governor. With a major credit crisis underway in the financial sector (one of the mainstays of the UK economy), growing evidence of slowing growth, falling retail sales and falling house prices, the Bank of England has since September cut its core interest rate by a measly 25 basis points and is not doing enough to prevent the UK economy from a sharp downturn. Consensus appears to be a difficult position to reach for the Bank of England Monetary Policy Committee, with many split and narrow votes and this has undermined the role and the influential ability of the Bank’s Governor.

What to expect from Bank of England in 2008: The Bank will probably cut by 25 basis points in February but it won’t be nearly enough and events could overtake them, forcing the Bank into an aggressive series of cuts thereafter which could see a further 100 basis points pared off by the summer. If the UK suffers a severe downturn or a recession later this year, the Bank of England will be put forward as the principal culprits, for having chased the hare after it has bolted.

Ted B - Jan 23

Bob's Currency Focus - 17:00 GMT

The Fed ceded to pressure following a turbulent day on global markets Monday and cut the Fed Funds rate by 0.75% with immediate effect, bringing the core interest rate down to 3.5%. The is the largest single-day cut in interest rates in living memory and it may well determine the legacy for which Ben Bernanke will be remembered, even if he is now just 2 years into his tenure as Fed Chairman. Today’s announcement is a highly controversial move because it comes 1 week before the Fed was scheduled to meet in regular session to deliberate on monetary policy and an out-of-meeting cut may be adjudged to being no more than a knee-jerk reaction to the sell-off in global stocks witnessed yesterday and timed to prevent a sharp sell-off on US stocks Tuesday. If President Bush’s stimulus plan, unveiled last Friday, had gotten a positive reaction from markets, would the Fed have cut rates at all before their scheduled meeting next week? Only time will tell if the pre-emptive move in any way benefits the US consumer and the wider US economy as much as the Wall Street share prices, which should now be spared a drubbing today. If anyone was still uncertain whether the US economy is either in or on the verge of a recession, today’s Fed decision has removed any doubts. The dollar has plunged following the announcement and has lost over 2 cents to the euro, while the dollar is also down 2 cents against sterling and over one cent against the Canadian dollar. Rates were also reduced in Canada Tuesday, but by a much more modest 25 basis points.

EUR/USD
Having hit a low of 1.4368 earlier this morning as soon as the European session opened, the euro has since then surged to over 1.46, putting Monday’s collapse behind it. Trading is incredibly volatile but with stock markets recovering this afternoon thus far, risk aversion levels have dropped somewhat and led to a broad sell-off of the dollar. The dollar is now essentially a low-yielding currency with interest rates at 3.50%, i.e. rate differentials now favour the euro by 50 basis points, an important consideration when holding the currency pair. If there is a significant bounce in stocks today and into tomorrow, following the Fed rate announcement, we should see the euro rise against the dollar, possibly back up towards 1.48. Traders will be afraid to buy the dollar in the belief the Fed move today was largely detrimental to the currency and the immediate risks for the greenback lie to the downside. However, when the stock rally runs out of steam, focus will shift back onto question of a global economic slowdown, and this will tend to benefit the US currency, with safe haven funds likely to flow back into US-denominated assets. It is very dangerous to trade the market today given the level of volatility and uncertainty that abounds, especially as the euro has already gained over 2 cents against the dollar. It may come under some selling pressure if the pair approaches 1.4720, the point at which the pair stalled towards the end of last week, but momentum could possibly take the pair back towards 1.48 in the coming days. Strategy: Wait for markets to stabilise before entering. Buy on dips only if Wall Street closes strongly this evening with limit prices of 1.4680, 1.47 and 1.4720, 1.4770 and 1.4820.

GBP
Sterling has generally had a good day, although it lost out marginally to the euro. It has gained 2 cents against the dollar and also made a significant impression against the yen and the Swiss franc. Cable is back trading at 1.96 having gone as low as 1.9333 this morning. Sterling’s gain is purely down to the Fed surprise rate cut with high yielding currencies benefiting from a resumption of the carry trade and a broader dollar sell-off. The event of Monday however cannot be forgotten and the underlying fundamentals that caused such market stresses have not changed, so cable will slide again if risk aversion levels rise. Wednesday is a high risk day for sterling with both the minutes from the Bank of England’s January meeting and the first print of the quarter 4 GDP numbers due for release. Quarter 4 GDP is forecast at 0.5% and anything lower will be negative for the currency while if the minutes of the January 10 monetary policy meeting reveal that 3 or 4 members of the committee voted for a rate cut, then this too will hurt sterling as it would most likely rubberstamp a cut for the February meeting. Cable is going to be unpredictable following the Fed rate cut today, but futures markets had already priced in a 75 basis points cut for next week, so the upside for sterling should be limited to around 1.97 for now. There will also be pressure for the Bank of England to be more aggressive in its easing policy and this too will tend to limit support. Strategy: Sell cable on failed rallies to around the 1.97 price level, with target limit prices of 1.9570, 1.9540, 1.9480, 1.9440 and 1.94.

JPY
The yen retreated sharply following the Fed’s rate announcement Tuesday, with traders anxious to load on carry trades, in anticipation of a lift in stocks and risk tolerance levels and using the low-yielding yen as the funding currency. The currency had made exaggerated gains in the past week and was always going to come under attack once risk appetite returned to the market. The Bank of Japan had earlier announced that Japanese interest rates were to remain on hold at 0.5% and Governor Fukui indicated the Bank was also not in any rush to change the base rate. With rates in Japan remaining significantly lower than elsewhere the decision has little market impact. The medium term to longer term outlook however for USD/JPY would appear to be limited on the upside as rate differentials between the two currencies have now been slashed by 1.75% in the past 4 months and are likely to be narrowed even more in the coming months. The yen has given back all of the gains it had made against the euro since last Friday, while it also fell sharply against the pound and the New Zealand dollar. If stocks rebound in Asia tonight and continue their recovery into Europe and the US Wednesday, the yen will remain under pressure, but the reversal should prove to be temporary as the underlying fundamentals that led to the US recession fears and the sharp sell-off on global financial markets have not been changed by today’s Fed rate cut. There is some value in buying EUR/JPY with the prospect of a retracement back to Y160 over this week. The dollar will struggle against the broader currency basket but should be able to retrace modestly against the yen, back towards 108 over the next 2 days. Stock market performance again needs to be monitored closely because any further sharp dip in share prices will lead to a very fast bounce in the yen. Strategy: Buy EUR/JPY on dips towards Y154 with upside price targets of Y156.50, Y1.57.30, Y157.80, Y158.20 and Y158.50.

CAD
The Fed’s emergency rate cut has stalled the bull run on USD/CAD and there is no doubt the pair was poised to hit 1.05 Tuesday, if Bernanke had not stepped in to try to avert carnage happening to US stocks. How it will play out over the coming days is dependent on how global stocks perform but with futures markets betting on a further rate cut from the Fed next week, when it meets in an official session, the probability favours stocks getting some kind of reasonable bounce in the coming days. If they don’t, then Bernanke will have misjudged the situation and failed spectacularly. A bounce in stocks will tend to favour the Canadian dollar, although the medium term and longer run outlook is for the resumption to the upside for USD/CAD. The Bank of Canada itself cut its interest rate by 25 basis points today to 4.0% but it has lowered its growth outlook and strongly signalled further rate cuts are on the cards in the near term. Contagion from a US recession will hit Canada’s economy more than any other country and with commodity prices likely to come under pressure in the face of a wider global economic slowdown, a number of negatives are beginning to stack up for the loonie. Retail Sales out of Canada increased at a much higher than expected 0.7% in December, but when the effect of the huge increase in gasoline prices that month is removed, sales only rose by 0.2% from November. We may see a bold attempt at a retracement on USD/CAD back to 1.0180, 1.0120 and even 1.0050 before the uptrend takes off again. This Friday sees the release of the consumer price index for December in Canada and a soft set of figures will set the loonie back. The greenback’s best chance of a quick resumption of the uptrend is if US stock’s stumble badly before the close today. Strategy: Buy USD/CAD on dips towards 1.0180 and 1.0120, with upside price targets of 1.0220, 1.0250, 1.03 and 1.0350. A sustained break above 1.0370 should then pave the way for a momentum-led move to 1.05. If you are long using a positional trade, hold the position and maintain target of Y105 and a stop loss below parity line. USD/CAD is likely to remain volatile over the coming days and tight stop losses will be taken out easily.

Wednesday will feature an article by Ted B on the actions of the various Central Banks to the current economic uncertainty.


Bob B

Bob's Currency Focus - 15:00 GMT

EUR/USD
Asian stock markets plunged overnight and European stocks have followed suit Monday with most of the major European averages down between 3.5% and 6% on the day. The major rise in risk aversion has seen the dollar become a major beneficiary (after the yen) with a major repatriation of funds back into dollar denominated assets, as concerns rise over the global economy’s ability to withstand a major US slowdown or recession. President Bush’s stimulus plan revealed last Friday has not impressed markets which regard the rescue effort as being too little too late. We’re moving into rather uncharted risk territory as equities officially enter a bear market, but growing doubts about the Asian and European economy’s ability to withstand a US recession is certain to benefit the greenback, as long as the current sentiment persists. Markets have already priced in at least a 50 basis points cut by the Fed next week, but traders need to be alert for any comments or announcements from Central Banks in the coming days because officials may attempt to allay fears and calm markets. The euro may potentially fall sharply against the dollar in the coming days if this fear overrides the anticipation of aggressive Fed easing and forces traders to the exits prematurely, most of whom are long EUR/USD. We may well see the euro drop to the low of 1.4318 seen in December and it may even decline all the way back to 1.38 over the next week if markets do not stabilise. Economic data, which is sparse this week, will play a minor role in the coming days, when risk aversion levels are certain to dominate market direction. Given the increased levels in volatility, currency trading will prove very erratic and dangerous. The increased risk will see EUR/USD go lower, possibly much lower, in the coming days. Expect a retreat to 1.4330, below which key support levels are likely to be severely tested. The euro will need to hold this level if it is to have any chance of gaining momentum as we move closer to the Fed’s key rate announcement on January 30. Strategy: sell EUR/USD on failed rallies, with limit prices of 1.4450, 1.4410, 1.4330 and 1.4210. Key upside resistance is now at 1.4590 and stops should be placed just above this level.

GBP
Sterling has had a mixed day, falling 0.5% against the dollar but rising significantly against the other high yielding currencies and rising modestly against the euro. House prices declined again in January (-0.8%) according to the latest survey from the UK Company Rightmove. In other data, the Bank of England reports money suppy widened to a 12.3% annual rate in December, from 11.7% in November. Markets were expecting a narrowing to 11.5%. UK public sector net borrowing narrowed to £7.8 billion in December, while the public finances widened to £17 billion, both figures coming in higher than expectations. Sterling now awaits Wednesday’s first estimate of quarter 4 GDP and the release of the Bank of England’s monetary policy minutes. Sentiment abour the state of the UK economy is likely to worsen the longer the current equity market turmoil continues and will put added strain on sterling. I retain my bearish bias on cable, but would hope for a bounce from the current rate before selling down again. Cable broke below support at 1.9480 Monday morning but has managed to stay above 1.9450 since then. Any rally back above 1.96 should offer a reasonable entry price, but traders need to be cautious in case of comments from Fed officials over the coming days that might have the impact of derailing the dollar. If you are already short on cable, you may want to stay in the market, because the risks have shifted more to the downside. Sterling could yet get back to below 0.74 against the euro, particularly if the sell-off in EUR/USD accelerates. Strategy: Sell cable on failed rallies to around 1.9650, with downside target prices of 1.9540, 1.9480 and 1.9370.

Yen
The yen has had a tremendous day Monday, wiping out all before it and hitting a fresh 2.5 year low against the dollar. The Japanese currency has also sent the euro back to Y153, gaining almost 3Y on the day. A dramatic rise in risk aversion triggered by pummelling stocks has forced the liquidation of risky investments and an increased flow of funds back to Japan, which has fuelled the yen’s rally. Stiff support is expected for the US currency at levels close to Y105 and progress from here may prove difficult. There is also the risk of possible intervention by Japanese officials, likely to be restricted to verbal warnings at this point, as concerns grow about the adverse impact a sharply stronger yen has on Japanese exporters and the wider Japanese economy. With markets in the US closed today, the prevailing negative sentiment is likely to carry through to Tuesday at least and the yen is likely to remain strong. Give the risk of a sharp reversal, there is little value in buying the yen at current prices and traders may be better advised to await some market stabilisation before executing any yen trades. With the Fed due to deliver a rate cut next week, markets will be hoping for a bounce in the lead-up to that decision, particularly if the current sharp sell-off on equities exhausts itself. Strategy: Await market stabilisation (one full day of recovery in equities) and rise in risk tolerance and then buy EUR/JPY. Sit on sidelines for now.

CAD
Although the loonie has fallen against the dollar and the yen, the currency has had, oddly enough, a relatively strong day on the currency markets, rising against almost every other currency, gaining 0.5% against the euro and over 1.5% against the Australian dollar. It is the only one of the commodity currencies that has not suffered a sharp sell-off and this may be more to do with a steady flow of funds into Canadian dollars for the expiration of the February oil contract than any form of renewed faith in the Canadian currency. The loonie is also getting some protection from the fact US markets are closed today which will significantly reduced the volume of trades on USD/CAD. But the next 24 hours hold massive risk for the loonie, with the Bank of Canada expected to deliver a rate cut Tuesday while risk aversion rises amidst concerns over the outlook for the global economy and plunging commodity prices. USD/CAD could potentially rise to 105 tomorrow, particularly if the Bank of Canada is decidedly dovish in the tone of its statement. Retail Sales for November are out 30 minutes before the Bank of Canada rate decision but their significance will be squeezed to the margins as the market will be fully focused on the Bank’s pending policy statement. Strategy: Buy USD/CAD on any dips below to between 1.0250 and 1.03 with target prices of 1.0350, 1.04, 1.0450 and 1.05. Positional players should hold their USD/CAD long positions and await the initial 1.05 price objective. Maintain a stop loss just below the parity line. Trading will be very volatile Tuesday and intraday traders need to be cautious and be alert for any unplanned announcements from the Fed,


Bob B