Forex and Equity massacre continues….

After last weeks massacre investors expect stability this week, but, so far that’s not to be, financial woes has become economic woes. G7 cannot even stop the ‘Yen’ appreciating, as higher yielding currencies are being dumped. Does Bernanke need to push yields towards ‘0’ sooner than expected? Will that restore any faith in the Capital Markets?

The US$ is stronger in the O/N trading session. Currently it is higher against 14 of the 16 most actively traded currencies, in a very ‘volatile’ trading range.

FX Heatmap October 27th, 2008

It’s difficult to be optimistic in this current environment. The greenback has advanced the most in over 15-years against its major trading partners. This global economic slow down herds investors towards the currency as an alternative haven from the massive losses in the emerging markets. Global financial leaders continue to meet on a regular basis, to hash out new alternatives to stave off a deeper recession. Asian and European leaders called for an overhaul of the banking rules. They have pledged to ‘undertake effective and comprehensive reform of the international monetary and financial systems’. The object is simple, but, consensus will be difficult. Now, it’s on to the G20 meeting hosted by the US. To date, every financial leader has been stomped by the magnitude of this apocalyptic financial fallout. UK Chancellor of the Exchequer expects the credit and financial crisis to go much deeper. For a great example of the swiftness of an economic decline, take a look at what has happened to the Irish economy in the past 9-months, Celtic Tiger, once the darling of Europe, now entrenched in a recession (1st country in Europe to admit) with a property boom gone bust. The speed and social discontent sweeping throughout the country is a sight to behold. Lets hope that world leaders are capable of curtailing a deeper global recession. Emerging markets do not need to experience the same deep rooted problems as Iceland and Ireland are currently wading through. Rationality and fundamentals have been thrown out the window; self-preservation continues to be the order of the day. IMF continues to step in and provide temporary financial relief for ailing countries with financial restrains (Iceland and Ukraine so far). Expect volatility to be the new norm as investors psyche continues to take a bettering.

The US$ currently is higher against the EUR -1.45%, GBP -2.87% and lower against CHF +0.45% and JPY +1.20%. The commodity currencies are again weaker this morning, CAD -1.04% and AUD -2.43%. The loonie depreciated 8% last week, the fourth weekly drop and is closing in on the worst month in half a century on speculation that the economic slump will deepen and oil will decline further. Crude oil, which accounted for 10% of Canada’s export revenue last year, fell -11% last week. It’s anticipated that the BOC will need to extend interest-rate cuts (2.25%) in the face of slowing economic growth. Last week Governor Carney reduced overnight borrowing costs by 25bp (2.25%), less than the market had anticipated, but added that it will probably need to act again to fend off the effects of a credit crisis and global recession. The market continues to see position covering and repatriation back to the US, which is driving the greenback higher across the board. The BOC MPR last week said that the global credit crisis will be ‘deeper, more persistent’ and more widespread than the policy makers had anticipated and signaled they will cut borrowing costs again as the economy teeters on the edge of a recession. Governor Carney said ‘that these financial headwinds will take time to dissipate, even with the extraordinary recent policy actions just announced’. Previously the BOC justified their less aggressive move in the context of how much action that has been taken since its last meeting (75 bps) and the cumulative cut in rates since Dec (225 bps). Looks like a good bet that borrowing cost could break the 2% mark by year end. Some analysts have stuck their neck out and foresee the loonie sliding to 1.40 by Christmas. For now the trend remains your friend, do not expect to find resistance from investors, who continue to better buyers on pull back.

One expects the AUD to underperform in recessionary times, and last night the currency delivered and eased again vs. JPY and the greenback as tumbling equities and commodity prices prompted investors to dump higher-yielding assets. Despite a stronger inflation report earlier last week giving the currency some support, one can expect investors to be better sellers on rallies (0.6040).

Crude is lower O/N ($62.46 down-169c). OPEC’s decision came and went and crude prices ended up lower on Friday and have continued the trend in this morning session. Oil has fallen to a 16-month low as OPEC’s decision to curb production by -1.5m barrels a day has failed to ease concerns that the global economic slump is curbing fuel demand. To date prices have fallen 58% since the beginning of the summer. Analysts believe that OPEC should have recorded a deeper cut to prevent further easing, but politically that would have been a difficult ‘pill to swallow’. The cut in production will commence at the beginning of Nov. Do not expect crude prices to bottom out until other markets find some stability. Growth fears continue to outweigh any cut in production; this will continue to keep the black-stuff under pressure again. They still produce over 40% of the world’s oil. Last weeks EIA report showed that crude oil stocks rose +3.18m barrels to 311.4m, w/w, and again another bearish weekly. The market was expecting an increase of +2.6m barrels. Analysts continue to aggressively pare their future price estimates, down from $90 to a year end price of $60. Sluggish demand continues to be the catalyst for rising inventories. OPEC President Chakib Khelil said that the ‘ideal’ price for crude is between $70 and $90 a barrel. Gold finally climbed on Friday afternoon, erasing earlier losses as global equities continued their downward spiral, thus boosting the appeal of the ‘yellow metal’ as an alternative investment, but once again expect investors to want to raise cash and sell the ‘yellow metal’ on rallies.

The Nikkei closed 7,649 down -811. The DAX index in Europe was at 4,114 down -181; the FTSE (UK) currently is 3,701 down -182. The early call for the open of key US indices is lower. The 10-year Treasury yields ended up yielding 3.69% on Friday and have eased 5bp O/N (3.64%). Volatile markets had Treasury recording exaggerated ranges of late. Overall with global equities currently remaining under pressure has FI better bid despite the threat of ‘new issuances’ this week. A slowdown in global economic growth has investors seeking safer heaven asset classes. One can expect traders to cheapen up the curve when required. Futures contracts show a 100% chance that the Fed will cut its O/N 1.5% target rate by 25bp at the Oct. 29th meeting.

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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