USD$ crisis is underway!

‘There is never just one cockroach in the kitchen’. Despite assurances by policy makers, who signaled that a government takeover of the GSE’s would not be necessary (led to the successful sale of Freddie’s discounted bills yesterday) fear of the unknown runs rampant and is affecting all asset classes.

The USD$ is weaker in the O/N trading session. Currently it is lower against 15 of the 16 most actively traded currencies in a ‘wild’ trading range as the USD$ liquidation crisis continues allowing the EUR to print record highs.

FX Heatmap July 15th, 2008

US equities remain weak on the back of financial shares after the government’s seizure of IndyMac last weekend and predictions of wider credit losses eclipsed policy makers plan to rescue Fannie and Freddie. The ‘house of cards’ is about to tumble. Some analysts believe that the Paulson’s plan in aiding the GSE is a ‘disaster’ (increasing temporary credit lines and infusing equity capital into either company if necessary). Taxpayers will be saddled with debt if US congress approves their plans. Some see these institutions as insolvent, and policy makers are throwing ‘good money after bad’. The end result, it would affect the Fed’s balance sheet, leading to a weakening of the USD$ and heighten inflation.

Authorities need to curtail perception, psychology and humane behavior. If any government looses the confidence of the consumer in its financial systems then panic and hysteria can only follow. Did we ever believe we would see again ‘depositors’ queuing up to empty their bank accounts like the scenes at Northern Rock in the UK last year? With analysts forecasting deeper and deeper losses for institutions like Washington Mutual, Zion Bancorp, National City Corp. and First Horizon National Corp (names most of us have never heard of), could lead to some ugly scenes in store for us-they have limited opportunities to strengthen their balance sheet at the moment (mind you this is coming from a guy who’s glass is always half full!!).

As expected the BOJ held rates steady O/N at 0.50% and once again cut their growth forecasts. Fed Chairman Bernanke’s Humphrey Hawkins testimony will be front and center today. The re-emergence of financial market turmoil means that Bernanke will likely have to reverse his June FOMC statement, and admit that downside risks to growth are again on the rise. Thus, he is expected to highlight ‘the liquidity provision programs rather than signal possible policy easing’ (3.00%).

The US $ currently is higher lower against the EUR +0.43%, GBP +0.67%, JPY +0.75% and CHF +0.79%. The commodity currencies are stronger this morning, CAD +0.50% and AUD +0.86%. The loonie got a boost from US policy makers, who continue to toe the party line and insist that Freddie and Fannie will not fail. USD/CAD printed a 6-week high as traders were comfortable in accumulating more risk. With continued robust commodity prices, the CAD$ has appreciated 2% this month vs. its southern neighbor (who is their largest trading partner). Of late, Canada’s economy has been guilty by proximity and association to its southern neighbors. Last week, Canadian employers unexpectedly shed jobs last month for the first time this year (-5k vs. +10k) and pushing the unemployment rate higher (6.2%). The weaker than anticipated report should provide further evidence for Governor Carney at the BOC that rate hike are not warranted (3.00%) later this morning. Futures continue to price in no hike by the BOC for the remainder of the year. With the general weakness of the greenback and elevated commodity prices continue to lend support for the loonie. The loonie has potential to trade at a premium once again vs. the USD$ in the short term.

The AUD$ rose (0.9815) and printed a 25-year high after stronger than expected employment data last week coupled with traders speculating that a deepening credit market crisis will prevent the Fed from hiking rates any time soon(2.00%). The AUD$ will be expected to maintain its yield advantage. Strengthening commodity prices will bring the AUD$ ‘parity’ question to the fore again.

Crude is higher O/N ($145.51 up +51). Geo-political concerns and inventory levels boosted crude prices yesterday. Brazil’s state controlled oil company (Petroleo Brasileiro), began a 5-day labor action in a specific region that supplies 82% of their output (+1.8m barrels), combined with the Nigerian delta unrest, continues to have the market better bid. With Iran test firing missiles in the Persian Gulf, it was rumored that Israeli war planes practiced over Iraq. This has heightened concerns of the possibility of conflict within the region; it can only lead to better buying by speculators on pull backs. Analysts believe that eventually global economic worries will ‘trump all else’ and prices will ease. Last weeks EIA report showed a bigger-than-forecasted decline in inventories w/w. Stocks fell -5.84m barrels to 293.9m vs. an anticipated decline of -2.1m barrels. Oil also rose because of the weakening greenback. A weaker USD$ continues to boost the appeal of commodities as a hedge against the currency’s fall. Gold remains better bid ($979) due to higher energy costs and plummeting equities increasing demand for the yellow metal as a safer heaven.

The Nikkei closed at 12,755 down -255. The DAX index in Europe was at 6,107 down -92; the FTSE (UK) currently is 5,242 down -58. The early call for the open of key US indices is lower. Yields of the US 10-year bond eased 14bp yesterday (3.81%) and are little changed O/N. Treasury prices rallied yesterday as traders continue to speculate that that Freddie Mac successful sale of discounted bills yesterday will alleviate pressure on the Fed to auction more debt to prop up the GSE’s. With the equity markets finding it difficult to make any head way, fear will continue to drive investors towards the FI asset class for surety reasons.

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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