USD: Fed Minutes, Implications Of Gvt Shutdown

Posted by: Kiara Eva / On: April 5, 2011 / No Comments »

Currencies and equities ended the North American trading session in positive territory, a sign of continued optimism amongst investors who shrugged off all of the bad news to focus only on stronger earnings and M&A deals. This included a softer non-manufacturing ISM report, a rate hike by China and another sovereign debt downgrade in Europe. Part of the strength can be attributed to the Fed’s optimism and their plans to keep monetary policy easy compared to other central banks around the world.  According to the minutes from the March FOMC meeting, the Federal Reserve has grown more comfortable and optimistic about the outlook for the U.S. economy.  However just because the U.S. is gaining traction does not mean that the central bank is ready to raise interest rates and the vibrant debate on this very topic means that monetary policy could be kept easy.  The unemployment rate has declined but there is still substantial slack in the labor market, the housing market remains depressed and consumer spending growth is modest at best.  As a result, “almost all” Fed officials agree that the Quantitative Easing needs to be completed.  If the U.S. recovery was strong enough, tapering QE would have been a realistic possibility, but the reluctance of U.S. companies to hire aggressively makes it difficult for the Fed justify ending Quantitative Easing early.  In fact, in June, the central bank could still decide to reinvest the proceeds from maturing securities which would maintain rather than decrease stimulus.  It is hard to argue that the labor market is doing well when news that McDonald’s plans to hire 50k new workers at minimum wage is one of the biggest stories of the day.  With that in mind however, the minutes still showed Fed officials divided on tighter policy in 2011.  With the risks of inflation shifting to the upside, price pressures need to be monitored carefully to make sure that it remains transitory. A few members of the FOMC believe that less stimulus may be needed this year because of evidence of a stronger recovery, higher inflation or rising inflation expectations, but this is still not a view that is held by the majority. As a result, the latest Fed minutes show that the U.S. central bank is trailing far behind some of its peers on the road of policy normalization which should keep the dollar under pressure against most currencies.

Government Shutdown Looming?

For the first time in 7 months, service sector activity slowed with the ISM non-manufacturing index falling to 57.3 from 59.7. Aside from new export orders and order backlog, every one of the underlying components including employment growth slowed in March. However the reaction in the U.S. dollar has been limited because as long as U.S. companies are hiring, the outlook for the U.S. economy is getting brighter and not dimmer. Normally the ISM number would elicit a more meaningful reaction in the dollar because it provides clues for non-farm payrolls, but with NFPs released this past Friday, the ISM report is less significant this month. Meanwhile politicians in Washington continue to clash on budget negotiations, raising the risk of a government shutdown this weekend. President Obama stepped out today to oppose the temporary solution posed by Republicans. If an agreement isn’t reached by midnight on Friday, the government will be shut down. The last time this occurred was in 1995 during the Clinton Administration. The impact on the U.S. dollar at the time was nominal. The government was shut down for only 6 days and then again in December which basically involves putting all non-essential government services on hold. Some traders may be wondering if a shutdown could lead to a downgrade of U.S. debt but due to the short term nature of the shutdown, a downgrade is not an imminent risk.

EUR: RATE HIKE EXPECTATIONS KEEP EUR PROPPED

The euro recovered its earlier losses to end the day unchanged against the U.S. dollar. For the second time in less than a month, Moody’s downgraded Portugal’s sovereign debt rating. The downgrade combined with weaker Eurozone retail sales initially weighed on the euro but the prospect of a rate hike from the European Central Bank this week has helped to keep the currency pair afloat. No comments were made on monetary policy but the ECB has been crystal clear about their intentions. The action by Moody’s was not particularly surprising because the rating agency previously warned that political troubles could lead to further downgrades.  More likely than not, Portugal could be forced into a bailout as it runs out of cash. Portugal also has to refinance just under EUR10 billion in April and June and investors may be not be as willing to buy Portuguese debt after the government collapsed. However, problems in the periphery seem to matter little for the euro these days which has been trading on nothing but interest rate expectations. Eurozone PMI numbers were also revised higher for the month of March.   German factory orders and the final Eurozone GDP numbers are due for release tomorrow. Manufacturing activity growth is expected to slow after a particularly strong February. As we have seen today, any pullback in the euro should be short-lived ahead of the ECB rate announcement. Not only is the central bank expected to raise interest rates by 25bp, but there is also a reasonable chance that they will signal the need for further tightening in the months to come – at least this is what investors expect based upon what is currently priced into the market.

GBP: SURGES AFTER BLOCKBUSTER PMI REPORT

The British pound was the day’s best performing currency, rising approximately 1 percent against the euro and U.S. dollar. The currency’s rally against the euro was the strongest since the beginning of the year and reflects the degree of surprise in today’s PMI report. Service sector activity grew at the fastest pace in more than the year. The PMI index jumped from 52.6 to 57.1 on the heels of higher sales and increased enquiries. For the first time in 9 months, the employment component of the report also increased, albeit only slightly, reflecting an overall improvement in business conditions. Input prices rose as well but the pass through to output charges has been limited. This small and measured increase in inflationary pressures was confirmed by the BRC Shop price index which showed prices charged at retailers rising in the month of March. Backlogs of work also increased for the first time since September 2007. The only problem with the report is that optimism regarding future activity declined which confirms that the UK economy is not out of the woods.  Business activity is improving but there are still potential headwinds that could slow growth in the coming months. With that in mind, the Bank of England will certainly leave interest rates unchanged on Thursday. We will have to wait a few more weeks to see whether the improvement in service sector data has affected the views of the Monetary Policy Committee. Industrial production and house prices are due for release tomorrow. Unlike the service sector, manufacturing activity has slowed and we expect this slowdown to be reflected in the IP report.

CAD: IVEY PMI SHOULD SHOW SLOWER MANUFACTURING ACTVITY

The Canadian and New Zealand dollars extended their gains against the greenback while the Australian dollar retreated. Canada’s IVEY PMI report is due for release tomorrow and a pullback is expected after the sharp rise in February. However even if the IVEY report shows slower manufacturing activity, the Canadian economy is still performing very well with wholesale sales and leading indicators growing more than the previous month. The persistent strength in oil prices is also helping to boost the profitability of oil producers in Canada. Meanwhile weaker than expected economic data from Australia and less hawkish comments from the Reserve Bank of Australia pushed the Aussie lower against all of the major currencies. According to our colleague Boris Schlossberg, “the Australian Trade Balance turned to deficit for the first time in 11 months while RBA in its monthly communiqué, stressed that rates are likely to remain stationary for the foreseeable future. The RBA noted that, ”Inflation is consistent with the medium-term objective of monetary policy, having declined significantly from its peak in 2008.”  As we wrote earlier, “RBA’s projection that inflation will remain within its target band of 2-3 percent indicates that as of now, the Australian central bank sees no need to hike rates any further for the rest of 2011. Clearly the policymakers in Sydney feel that the rising value of the Aussie which has been setting fresh post float highs nearly every day, is acting as a powerful offset to any inflationary pressures in the system. Furthermore, today’s surprisingly weak Trade Balance figures could be signaling that a rising currency is creating competitive pressures for the Australian export sector. The RBA therefore wanted to communicate in no uncertain terms that monetary policy will remain on hold tempering any expectations of any further hike to 5%.”

JPY: MILESTONES IN THE YEN

The Japanese Yen weakened against all of the major currencies today, falling to 11-month lows against the Euro, Pound, Aussie and Loonie. The Yen also reached its lowest point in 30-months against the Swiss Franc, and made a 5-month low against the Kiwi. Fed Chairman Ben Bernanke’s comments regarding inflation in the US and that it must be “watched closely” led the Yen to rise to a six-month low against the Greenback as investors bet that interest rates may be raised sooner rather than later. Speculation that the Japanese central bank is lagging behind in monetary policy normalization, as other central banks look to raise rates in the near future, is also causing the Yen to weaken. Japanese stocks declined on reports that Tokyo Electric Power Corporation, the owner of the troubled Fukushima Dai-Ichi nuclear power plant, was dumping radioactive water into the sea. 10-year Japanese Government bonds rose after a 4-day losing streak, as demand was better than expected at the first bond auction this fiscal year. BNP Paribas cut its growth forecast for Japan from 3 percent to 1.6 percent and projected GDP to contract 0.8 percent in the second quarter. As investors’ risk appetites increase due to a more robust global economic recovery, demand for the Japanese currency as a safe-haven is also decreasing. The Bank of Japan is expected to keep its ultra-easy monetary policy stance, with rates near zero and could possibly increase the scope of its asset purchase program by another 5 trillion Yen to a total of 50 trillion Yen. The BOJ is also considering offering temporary loans to banks to assist companies with cash-flow shortages as a result of the last month’s catastrophic events. According to the March Tankan survey, Japanese companies said issuing conditions for their commercial paper remained easy in March, but that the results don’t fully reflect the impact of the March 11 th quake and resulting tsunami. Japanese Finance Minister Yoshihiko Noda announced today that he will ask his G-7 colleagues to continue cooperating in the currency market after the first coordinated intervention in the FX market since 2001 took place last month to stem the Yen’s ascent. Noda also said that the Japanese government is planning to compile its first supplementary budget for the reconstruction efforts of ravaged northeast Japan without issuing additional deficit-financing bonds. Over the next 24 hours, we expect the release of the February Leading Index and Coincident Composite Index.

USD/CAD: Currency in Play for Next 24 Hours

USD/CAD will be our currency pair in play over the next 24 hours. From Canada, we expect the Ivey Purchasing Mangers’ Index for the month of March at 10:00 AM NY TIME / 14:00 GMT. The United States is expected to release MBA Mortgage Applications figures for the week ended April 2 nd at 7:00 AM NY TIME / 11:00 GMT, followed by Crude Oil Inventories at 10:30 AM NY TIME / 14:30 GMT.

USD/CAD pared yesterday’s gains today, and is trading within a downtrend for the fourth consecutive day, which we determined using Bollinger Bands. The pair has been trading within a downtrend since October 2010, and has fallen for the most part over the past week. The closest level of support is channel support at 0.9600, which corresponds to the lower two-standard deviation Bollinger band. If this level is broken, there are no solid support levels until the 2007 lows, which are in the 0.9000 range. The nearest level of significant resistance is the 20-day simple moving average of 0.9760. If this level is crossed, the 0.9865 level, which supported the pair through the end of 2010 and into the first two months of this year, should provide further resistance. If the pair breaks its downtrend, channel resistance of 0.9933, which coincides with the 100-day simple moving average, should provide major resistance.

Similar Posts:

Share

Post comment