Eric's Currency Focus - 12:00 GMT


The Fed minutes were rather disappointing from a dollar perspective as they did not indicate that the September rate cut was a once-off and also the 50 basis point cut was unanimous and an argument was not even put forward for the smaller 25 basis point move the market was expecting. While acknowledging that the August employment report would probably be revised, the Fed was really in the dark as to growth outlook and predicted the housing sector crisis would get worse, before it got better. The minutes have fuelled expectations for a further cut in October and the market’s interpretation of such was demonstrated by both the Dow and the S&P 500 closing at record highs Tuesday. The immediate prospects of a major dollar correction look to be on hold and EUR/USD may now range trade in the 1.40 to 1.42 price range, until there is some major shift in expectations. With little on the data side for Wednesday, we may initially see a euro attempt to take out 1.4160, which if it gives way could see an attempt to reach 1.42. The euro has its own issues at present though and any move towards 1.42 is likely to attract increased selling pressure. The dollar needs to recover quickly to below 1.41, or negative sentiment against the currency will intensify.

Sterling rallied very strong late Tuesday/early Wednesday and cable went from a low of 2.0256 Tuesday to reach 2.0478 this morning. Cable looks to be living a charmed life at levels close to 2.05, particularly since the UK government yesterday downgraded its growth forecast for 2008 to between 2 and 2.5%. However comments from Mervyn King on Tuesday helped play down expectations for a near-term interest rate cut, which helped boost the pound. If cable can hold above 2.04 today, it may have a chance to try and challenge the key resistance point at 2.0490 over the next day or so, but cable does look over-priced given the underlying risks and I will be surprised if it does not return back towards 2.03 by Thursday. Sterling failed to penetrate the 0.69 level again against the euro, but it still looks to offer decent value on levels close to 0.6950. Sterling broke above the 2.40 price level against the yen for the first time since the recent bout of market volatility started in early August and we could see a further spike in GBP/JPY if the Bank of Japan gives a dovish assessment after their latest policy meeting early Thursday.

The Japanese currency has been on the defensive for the past 24 hours as markets virtually eliminate the prospects for an interest rate rise from the Central Bank Thursday. The Bank could surprise and add 25 basis points tomorrow, particularly given the current favourable price levels for the currency, but it is unlikely to do so. The currency is likely to face a bout of fresh selling, if rates remain unchanged, and we should see 118 being struck against the dollar and further weakness against the other major currencies over the next 24 hours. This weakness could prove to be short-lived, given current levels of complacency, particularly if we see any rise in risk aversion on global financial markets in the coming days. It is not a currency to buy however based on current sentiment.

The loonie, as is its form over the past 6 months, blew away any notion of a recovery in USD/CAD Tuesday, as the currency pushed the US dollar right back below the 0.98 price line from the 0.9895 price the dollar had reached earlier yesterday. The loonie was underpinned by recovering oil prices which jumped by over $1.20 a barrel Tuesday. While the loonie does look grossly over-priced, it is unlikely to encounter any major selling pressure unless we see a sharp decline in commodity prices and/or strong intervention by the Bank of Canada. The market has more or less dismissed any chance of rate cut from the Bank of Canada next week, particularly after the strong employment report that was published last Friday. The euro slipped to a 16 month low of 1.3810 against the Canadian currency Tuesday, while sterling slipped below CAD2.00. The euro looks to offer good value at levels close to 1.38 against the currency. The loonie is up an incredible 23.5% against the yen since March and with the pair fast approaching 1.20, the pair is being set up for a very sharp tumble, when risk aversion returns to currency markets. For the moment expect an attempt to take out 1.20 on the CAD/JPY cross, particularly while the yen remains exposed to the carry trade.