Eric's Currency Focus

EUR/USD

US Existing Home Sales in September came in 8% lower than in August, twice as bad as what economists were forecasting. We witnessed a very strange turnaround on the Dow Industrial Average when it came from being 200 points down (understandable given the clatter of bad news circulating – including Merrill Lynch’s report of a near $3 billion dollar loss in Quarter 3, owing to the subprime fiasco) to close in positive territory. The reason appears to be that traders now appear certain that Ben Bernanke will don his white knight suit again next Wednesday and deliver a further rate cut. It is somewhat disturbing when financial markets rally in the wake of bad news on the assumption Central Banks are going to bail them out, but ultimately the US Fed are to blame for creating this market mindset. No other Central Bank has followed suit with respect to the credit crisis fiasco. Germany’s Ifo business index, one of the most important indicators for the euro, held up fairly well in October, coming in at 103.9 in October, from 104.2 in September. This indicates that the euro’s strength is not yet seen as a major threat to the euro economy’s largest player. The dollar is going to have few friends for the next week, ahead of the Fed meeting, and 1.45 is now a realisable target for EUR/USD if the Fed cut interest rates on Wednesday. We should continue to buy the euro on dips and we could see an attempt to hit 1.4350 today. With almost everyone long on EUR/USD, there is the danger that some event like another sudden stock market blip or dovish comments from the ECB could trigger a wave of profit-taking and send EUR/USD plummeting lower, similar to what happened on Monday. But if caution is exercised and you don’t get too greedy, the direction to be on at the moment is up. 1.4240 appears to have formed as an interim support point and behind this there is further support at 1.42 and 1.4180. 1.4320 needs to give way for a crack at 1.4350 later today. If price stalls on the upside, expect a retreat to 1.4250. Keep an eye on US stock markets, because if they do fall sharply, the dollar may be offered some temporary respite.
GBP
Cable has been hovering in no-man’s land for the past few days and looks as though it is waiting for something to happen to give it some direction. This morning’s BBA data from the UK shows a dip in mortgage approvals from 61K in August to 52.7K in September. Ongoing concerns about the fate of the UK’s housing sector will probably prevent aggressive buying of sterling, but the sheer negativity of sentiment surrounding the US dollar might still allow cable push higher, particularly in bouts of broad dollar sell-offs. There is the potential for a rise to 2.0550 or maybe higher today and cable could potentially take out the 28 year high of 2.0651 in the next week, as few are going to want to buy the dollar with the prospect of a Fed rate cut looming. For today, cable should trade within a 2.0420 to 2.0550 price range, with the bias to the upside. The euro has risen to 0.6775 against the pound Thursday and the pair is likely to remain largely within the 0.6940 to 0.7010 price range. Sterling offers good value on levels close to 0.70.

Yen
The yen has weakened Thursday and increased interest in carry trades in the expectation of a US Fed rate cut will put the Japanese currency on the defensive. We could see the dollar return to Y115 later today if stocks rally, while the euro should be able to hit Y164. The underlying credit risks remain however and any rise in risk aversion levels will propel the yen sharply higher. In the build-up to next week’s Fed meeting the yen could come under further pressure as higher yielding currencies will tend to benefit more. We have consumer price inflation data released in Japan this evening and a further negative reading for the national index in September will weaken the yen and probably kill off any notion of a rate hike from the Bank of Japan this year. The country has been in deflationary mode for each of the past 6 months.

CAD
The loonie weakened somewhat Wednesday, retreating when stock markets went into decline, but the currency rebounded before the market close. In early Thursday trading, the loonie has appreciated to within a whisker of the 33 year high it hit against the US dollar on Tuesday. The USD/CAD pair is trading at 0.9634, just above the 0.9625 low. The Canadian currency has been buoyed by higher oil prices and the prospects of a further narrowing in US-Canada interest rate differentials as early as next week. It is difficult to see the loonie being able to appreciate much more against a background of a slowing US economy and significant competitive problems, but traders that support the loonie don’t seem to be phased by the concerns and if they can drive the US/CAD pair to below 0.9625, then there is no reason why we cant see a retreat to below 0.96, setting up a new record target of 0.95 for the coming week, when US dollar sentiment is likely to remain negative. If risk aversion levels rise and stock markets go into decline again, then the loonie will suffer and the US dollar could push back up towards 0.9750. The euro again offers good buy value on levels close to 1.3750 against the loonie.