Are Bernanke and Paulson on the ‘back-foot’ again?

The Fed once again is attempting to stay ahead of the curve. Yesterday they took new and bolder steps to unfreeze credit for homebuyers, consumers and small businesses. They are committing another $800b, by way of purchasing $600b in mortgage securities and earmarking $200b to support loans for the consumer and smaller businesses. So far Bernanke and Paulson actions have been reactionary and not proactive. To date $7trillion has been committed and the ‘hole’ keeps getting bigger!

The US$ is stronger in the O/N trading session. Currently it is higher against 13 of the 16 most actively traded currencies, in another ‘whippy’ trading range.

Forex heatmap

Yesterday US GDP fell -0.5% for the 3rd Q, deeper than analysts initially estimated and the most since the tech recession of 2001. All this has occurred on the back of the credit crunch, the plummeting housing market and mounting job losses causing consumers and businesses to tighten their belts even further. This has the hall marks of a much deeper recession than previously expected. Already this week Obama has warned that the US faces ‘millions’ of job losses, unless a concrete stimulus package is put in place before he commands office in late Jan. Consumer spending, which accounts for 2/3rd of the economy, fell to a revised -3.7% annual rate. Employment data will of course be the key short term, the trend is expected once again pick up momentum again this month. Other data showed that US consumer confidence rebounded this month (+44.9 vs. +38) as President Elect Obama was finally voted into office after a year and a half of campaigning. This managed temporarily to remove some uncertainty from the US consumer. A dramatic decline in gas prices also provided some support to confidence as consumers were given ‘needed breathing room’. But, with Obama not set to take office until late Jan. one should expect to see some sort of reversal next month as the unemployment rate is expected to tick up and the housing market to deteriorate even further. Oct. also saw a slight upward revision to +38.8, but still at a record low. The Richmond Fed was not as optimistic as the index plummeted to -38, a new record low, as new orders, shipments, capacity utilization, employment and average workweek all declined further. Wages improved slightly and prices paid also improved, rising at a more moderate pace of +1.5% although prices received declined -1.1%. Looking ahead 6-months, respondents see an improvement in business activity as shipments, new order volumes, average workweek and capacity utilization numbers all rose. But, employment remains negative.

Finally, and no big surprise the S&P/Case-Shiller Price index fell at a faster pace than expected for Sept. (fastest pace since last Feb.) as the 20-city index for house prices fell -1.85% m/m (-17.44% y/y) as sellers continue to reduce prices to entice homeowners back into the market. Currently with the erosion of personal wealth, the trend for the medium term remains intact………..much lower!

The US$ currently is higher against the EUR -0.49%, GBP -0.56%, CHF -0.56% and lower against JPY +0.26%. The commodity currencies are mixed this morning, CAD +0.24% and AUD -0.19%. An unexpected rise in retail sales yesterday boosted the loonie and ‘left footed’ all Bay Street analysts. The growth in total sales (+1.1%) nearly tripled estimates, while growth in core-sales (ex-autos, +0.8%) quadrupled consensus predictions. The rise was driven by a surge in domestic auto sales (+2.9%, m/m), higher food prices, and still high historical gas prices 2-months ago. Digging deeper one noticed that sales in volume terms also climbed by +0.7%, which suggests that this was not all about ‘price’. Despite it being a robust headline, one should be weary on a number of fronts. Some key sales components fell (computers, home electronics, appliances etc) and this report is two months old. We should be concerned about the pre-holiday months as concerns grew ‘exponentially since last month’. Remember that businesses are spending less, housing is in trouble and commodity price declines are affecting export numbers. Do not expect the relief rally to be sustainable. Investors continue to eye commodity prices for direction. The black stuffs prices continue to trade close to its 20-month low. Crude accounts for approximately 10% of all of Canada’s export revenues. Governor Carney last week said ‘that the risks to the country’s economy from a global credit crisis and recession have increased in the last month and will probably lead to a further reduction in interest rates’. Over the weekend PM Harper has already indicated that the government would run a ‘short term’ deficit to stimulate the economy. Traders have priced in another 50bp ease next month, this will push borrowing costs below the psychological 2% mark as further monetary stimulus will be required to achieve the banks 2% inflation target over the medium term (2.25%). After yesterdays fast paced and somewhat exaggerated move, expect traders to be better buyers on USD pull backs.

Initial reaction to the $800b fed bail out had the AUD better bid in the O/N session. But, coupled with the Citigroup ‘bailout’, risk aversion strategies continue, as uncertainty and fear dominate. For now traders continue to be better sellers on rallies (0.6491). Gold has had a healthy rally of late; this commodity will provide support for the currency in the longer term.

Crude is higher O/N ($51.29 up +52c). Crude pared some of this week’s advance yesterday as traders speculated that the weekly EIA report will show that inventories rose again for a 9th consecutive week as demand declined. The monthly demand last week was down -7%, y/y. This week we saw the black stuff rally aggressively on the back of the Citigroup package bailout proposed by the US government. The government’s action had boosted investor confidence; coupled with a weaker USD, it managed to improve the appeal of commodities across the board. Further stimulus packages announced by Asian governments also managed to lend a helping hand. But, so far it has not been sustainable as traders wait for the numbers later this morning. On the back boiler we have OPEC, who remains concerned that oil prices continue to flounder around the 20-month low. Reports show that OPEC members are adhering to quotas that were agreed on last month. The members will meet in Cairo this weekend; last month they set quotas to 30.98m barrels a day for this month compared with 32.2m a day in Oct. But, they remain worried by the direction of future prices. They are not sure if there is too much product on the market or that liquidity is drying up. According to Venezuela’s oil minister, Ramirez earlier this week, deterioration in global demand has left a surplus of about 1m barrels a day ‘over supply’ that needs to be removed by year end. It is very much a given that OPEC will cut output again, the announcement of the timing is the issue. Fear is destroying future demand at the moment. Speculation that the recession will further curb demand will push prices lower. To date, crude prices are down 63% from their summer highs and down 42% y/y. The erosion of future demand continues to be a ‘big’ question mark for global economies. With Gold advancing 12% over the past week, technical indicators had some traders booking profits and selling some of the ‘yellow metal’ positions ($819).

The Nikkei closed 8,213 down -110. The DAX index in Europe was at 4,532 down -28; the FTSE (UK) currently is 4,124 down -47. The early call for the open of key US indices is lower. The 10-year Treasury yields eased 12bp yesterday (3.10%) and another 8bp in the O/N session (3.02%). The long end of the US yield curve managed to rally yesterday after the Fed announced that they plan to purchase mortgage securities to ease credit concerns in the market again. This has caused investors to seek Government debt to hedge against their personal losses. With the Fed wanting to spend $600b on mortgage securities, this action will take ‘duration’ (the sensitivity of the underlying asset’s price to interest rates movements, expressed as a number of years) out of the market. Thus, this has prompted investors to hedge by buying longer dated product. Falling equity markets continue to push investors towards Government Debt.

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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