No Accountability in Currency Bloodbath

The market is taking a deep breath. It seems to be pinning its hopes on the G20 and IMF meetings to produce a policy response to the recent market panic. Already the G20 finance ministers’ communiqué delivered nothing new and suggests European policy is waiting for passage of EFSF enhancement. The statement included the usual copy, will ‘take all necessary actions to preserve the stability of banking systems and financial markets as required’, but gave neither specifics nor a date. No accountability.

We have the Fed wanting to implement this ‘innovative stimulus tool’ and the market reaction to it and their comments of ‘significant risk’ has put all asset classes under pressure. There seems to be no sense of ownership in finding an outright solution to the world’s economic problems before we enter ‘another recession’, assuming we are not there already. The Fed actions this week is not providing any new liquidity. They seem to be underhandedly insinuating that ‘no growth’ is a Fiscal problem, and that’s a Congress issue.

Economies cannot come up with a collective agreement. Regions and countries are playing the blame game. It’s the ‘get your own house in order first theme’. Capital markets will now shift their focus back to Europe as traders start betting on whether Europe is contemplating cutting off Greece’s lifeline to try to save

Forex heatmap

Data yesterday seemed to play second fiddle to mass ‘hysteria’. US initial claims dropped by-9k to +423k and marginally above a consensus +420k estimate. The prior week’s number was revised up +3k to +432k. These levels still suggest a very weak labor market. The four-week moving average rose to +421k, the highest print in two months. The market will take other data points (ISM reports etc) when forecasting this months NFP numbers, but claims is an important indicator and the ‘trend is not your friend’ at the moment. Last week’s unexpected rise has not been fully reversed and that not a healthy sign. Digging deeper, continuing claims eased to +3.727m from +3.755m the previous week and the number of total recipients on benefit rolls was +6.889m.

The dollars is lower against the EUR +0.53%, GBP +0.67%, CHF +0.69% and JPY +0.01%. The commodity currencies are stronger this morning, CAD +0.20% and AUD +0.92%.

The loonie and other commodity currency have crashed back to earth, with mass portfolio liquidation pushing the currency to revisit its 16-month low outright. The Fed’s significant risk statement has added fuel to the fire making all higher yielding currencies pay. The fear of what the Fed has left to fight with has sent widespread panic through all asset classes.

Canadian retail sales data did little to aid the currency. It fell twice as much as expected in July (-0.6%), marking the first decline in four-months and the deepest decline in 18-months. It followed a strong gain of +1.6% in the month before. The three-month rolling average points to growth of just over +2.5% annualized. Apart from weaker sales of household furniture, appliances and building equipment, lower new car sales, which fell by -3.5%, m/m, accounted for the bulk of the decline in overall sales. Core-sales were flat on the month. Should consumer confidence slide further than it has already, however, then consumer spending and housing investment could suffer sooner than even. The IMF has stated that the global economy is entering a new “dangerous phase’. Presently Canada is experiencing the twin evils of a slowing economy and higher inflation and remains at the mercy of ‘external headwinds’.

Governor Carney already this week applied the expected ‘dovish’ tone on the Canadian economy, explicitly noting ‘the need to withdraw monetary stimulus has diminished’. The Governor is becoming more concerned about global growth, especially now that the IMF has revised their growth forecasts. Investors are better buyers of dollars on dips (1.0271).

The AUD led the O/N gains on the back of G20 pledging to address global risks. To be fair, what else could they pledge. Yesterday and for the first time in six-weeks, the AUD traded below parity as all commodity and interest rate sensitive currencies suffered outright. Data from Australia’s largest trading partner, China, indicating that manufacturing may contract for a third month in September is not helping the Aussie cause.

Despite Euro policy makers indicating that they are making some good progress with Greece, periphery yields remain elevated, heightening debt default uncertainty and requiring the paring of higher yielding risk portfolios. Other negative data has also pressured the currency this week. One of Australia’s mortgage insurers reported the percentage of mortgagees experiencing stress rose to +25% in July from +21% in June even as rental vacancies fell.

Now that the domestic data is coming out a bit negative, there will be some questions ahead on what will happen to the Aussie economy. If anything, the RBA is likely to be on hold for an extended time, allowing investors to sell higher yielding assets on rallies. Traders have slashed bets on an interest-rate cut next month to the lowest level in seven-weeks after deputy Governor Battellino showed optimism the nation will weather Europe’s debt crisis. Erring on the hawkish side will give some investors the confidence to want to own the currency on pullbacks (0.9820).

Crude is higher in the O/N session ($81.29 up+0.78c). Oil has tumbled to a one month low as the market continues to digest the FOMC’s ‘significant risk’ comments. Weaker manufacturing data out of China and Europe coupled with the fear of Banks having funding issues continue to weigh on commodity prices. This week’s US inventory report, despite being bullish, had little affect on dragging prices higher. The oil market is on downside momentum now that there is a serious lack of risk appetite.

This week’s EIA report showed that the US commercial crude oil inventories decreased by -7.3m barrels from the previous week. Analysts expected a-700k barrel decline. At +339m barrels, oil supply’s are above the upper limit of the average range for this time of year. This drawdown has left stocks at the lowest level in nine-months and was the biggest drop since December. Refineries operated at +88.3% of capacity, up +1.3% points from the prior week. On the flip side, gas inventories increased by +3.3m barrels last week and are upper limit of the average range.

Weaker growth as shown by the IMF, which points to lower oil demand, and production in Libya is coming on stream faster than expected will have investors thinking of shorting the market again. Expect investors to run into technically selling on most rallies.

Gold fell to a four-week low yesterday as the dollar’s rally cut demand for the metal as an alternative asset after the Fed said it will implement ‘Operation Twist’. The yellow metal midweek rally was on the back of European debt concerns. Risk-aversion investors were looking at gold as a safe haven prospect. However, the Fed’s announcement has put a stop to this ‘Bull Run’.

The current dollar strength continues to weigh down on the whole commodity sector. Gold prices slumped just after the Fed’s introduction of more stimulus measures disappointed investors who previously bought, expecting a still-larger package, sold to exit from their contracts. Had there been even more stimulus measures, this would have raised the prospects for inflation even further. Some sellers have had the need to raise cash because of margin calls in other asset classes.

In reality, the continued concerns over euro-zone sovereign debt are likely to drive gold higher in the longer term before policy makers are forced to take more effective action. The Fed’s efforts to drive interest rates lower to support lending should, by default, eventually support commodity prices. For now, liquidation for margin requirements takes precedence ($1,742+0.60c).

The Nikkei closed at 8,560 down-181. The DAX index in Europe was at 5,197 up+33; the FTSE (UK) currently is 5,090 up+49. The early call for the open of key US indices is higher. The US 10-year eased-4bp yesterday (1.76%) and is little changed in the o/n session.

Treasuries advanced for a fifth consecutive day on speculation that global growth is stalling. US long-bond prices have surged, pushing the yields to the lowest level in two-years this week, after the Fed said it will purchase longer-term debt and sell shorter maturities to sustain the economic recovery. Yields on two-year notes rose after Bernanke said it will replace much of its short-term debt in its portfolio (Operation Twist).

This was expected, but it has been seen as an aggressive move by the Fed. Their communiqué indicated that there were ‘significant downside risks’ to the US economic outlook, which will continue to provide support for treasuries and flatten the curve even further. The Fed is ‘firing another magic bullet’ and dealers intend to keep ahead of ‘that’ curve.

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This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell