For readers of the Daily Currency Focus, it should be no surprise that the dollar has continued to weaken. On Wednesday, we said that the actions by the Federal Reserve have cemented the downtrend in the U.S. dollar. Given how currency traders have responded to previous Quantitative Easing threats and announcements, the EUR/USD could realistically hit 1.40 (see charts). Although equities have given back its gains and bond yields have rallied, the moves in the currency and commodity markets indicate that the Fed’s actions will have a lasting impact on the financial markets. As we look forward to more dollar weakness, it is worthwhile to consider how a weaker dollar impacts the global economy.

Bank of Canada surprised the currency market by taking its overnight interest rate to a mere 25bp becoming the second lowest yielding currency in the G10 universe matching the rates of US and Switzerland.

Global equities took a severe pounding in today’s trading. For the U.S., concerns over another wave of banking crises seem to take hold of investor’s sense of fear and uncertainty. The Dow was sent down more than 3.0%, while crude prices plummeted nearly 9.0% on the day. With economic data at a minimum for this week, the primary driver in the U.S. will remain to be the flood of corporate earnings. While news has been primarily promising thus far, many are still convinced that this will be the seventh consecutive monthly decline in corporate earnings. Accordingly, the standard risk adverse formation took shape in favor of dollar and yen strength. Crosses bared the brunt of the selling, sending AUD/JPY spiraling down by more than 4.5%.

Cautious optimism is the perfect catch phrase for today’s events. Things are getting better but it is unclear whether or not this is just a break in the storm, or the very beginnings of stabilization. The Federal Reserve seems to believe that we are a long ways off, while recent economic data and earnings reports are pointing toward stabilization. The Dow spent much of the day trying to find the answer to this unanswerable question. In the end, the bulls were barely able to maintain control. The euro and pounds got hammered in today’s session, losing more than 150 and 120 pips respectively. Surprisingly, dollar strength was not enough to keep USD/JPY from sinking further. Commodity currencies were mixed on the day.

The big story in the financial markets today was not the improvements in economic data, but the improvement in earnings. The health of the financial sector is critical to the recovery in the U.S. economy and therefore investors are keeping a particularly close eye on the reports from the banking sector. In order for the global economy to have any chance of recovering, banks need to stabilize and start turning a profit so they will feel comfortable enough to lend. Therefore the better than expected results from Wells Fargo has been received positively by the equity and currency markets. The U.S. dollar sold off against the commodity currencies and rallied against the Japanese Yen. The dollar also gained strength against the euro and British pound, which is not in line with the improvement in risk appetite because of euro and pound specific reasons that we will discuss further in the respective sections.

For the second day in a row, the U.S. dollar has appreciated significantly against the Euro and is also trading higher against the New Zealand dollar and Swiss Franc. However, the extent of today’s rally in the greenback basically ends there. The dollar is practically unchanged against the British pound and Australian dollars and is trading lower against the Canadian dollar and Japanese Yen. The 2.3 percent sell-off in U.S. equities coupled with the outperformance of the two lowest yielding G7 currencies indicates that risk aversion is the dominant theme. Yet, with no major U.S. economic data or market moving news over the past 48 hours, traders may be wondering, what changed. As recently as last week, investors were optimistic about a turnaround in the global economy following the more substantial outcome from the G20 meeting.

The Reserve Bank of Australia made a Solomonic decision tonight lowering rates by 25bp to 3.00%. The RBA split the difference between Aussie bulls who anticipated no change whatsoever in the overnight rate and Aussie bears who forecast a larger 50bp cut. In commenting on their decision the board noted that , “There has already been a major change in both monetary and fiscal policy in Australia. Market and mortgage rates are at very low levels by historical standards and business loan rates are below recent averages, reducing debt-servicing burdens considerably. Nonetheless, the Board judged that there was scope for a further modest adjustment to the cash rate."

Markets today are exhibiting the usual signs of uncertainty in light of a new month that has not exactly gotten off to the best start. Among currencies, the Euro, Pound, Canadian dollar, and Australian dollar all showed weakness against the dollar. USD/JPY on the other hand clearly exhibited dollar strength, as a surge to 101.00 is currently under way. The one currency that has managed to buck the trend has been the New Zealand dollar which only narrowly is holding on to gains. Nevertheless, the main driving force is the drop on the Dow today. However, as a sign of resilience in even a down market, the Dow rebounded off of exaggerated losses that extended down by nearly 150 pips to close down 41.74.

Over the past week, the Australian dollar staged an impressive rally as upside surprises in economic data fueled expectations that interest rates will be left unchanged for the second time in a row. Since March 10th, the Australian dollar has appreciated from a low of 0.6340 to an intraday high of 0.7228 on Friday. The Reserve Bank of Australia has a monetary policy meeting on Monday evening NY time, Tuesday morning in Sydney and the outcome of the meeting will determine whether the Australian dollar is able to sustain its gains. Currently, the market expects the RBA to leave interest rates unchanged, but some people believe that the RBA could cut rates by as much as 50bp, which means the upcoming rate decision, could be a close one. Although, leaving interest rates unchanged has become a common practice of many central banks these days, what sets Australia apart is that interest rates are not at zero, leaving the RBA with room to ease. At 3.25 percent, the country currently has the highest interest rate amongst developed countries.

The U.S. dollar has ended the week lower against all higher yielding currencies as the actions by Washington and leaders of the 20 largest economies have helped to restore risk appetite. USD/JPY which tracks the market’s sentiment broke 100, to trade at the highest level since November. The fate of the dollar in the week ahead will be largely dependent upon whether we are at a turning point in the global recession or if investors have been misled by false expectations.

The rally in U.S. equities and the improvement in risk appetite drove the U.S. dollar lower against all higher yielding currencies. Thanks to some extra efforts by the G20 and relaxation of mark to market accounting by the Financial Accounting Standards Board (FASB), investors have become more optimistic. However a big event risk lies ahead for the U.S. dollar and it remains to be seen whether the positive sentiment following the G20 and FASB can be sustained. The non-farm payrolls report is traditionally one of the most market moving pieces of data for the foreign exchange market and with the strong possibility of another sharp decline in jobs, it is too early to completely buy into the recovery story (How Could the Dollar React to Non-Farm Payrolls?).

You can never underestimate the hawkishness of the ECB. This morning, the central bank cut interest rates by 25bp to 1.25 percent, driving the EUR/USD sharply higher following the smaller than expected move. Here are 3 reasons why the ECB cut by 25bp instead of 50:

The next 48 hours in the foreign exchange market should be very interesting as we look forward to three significant events that could trigger massive volatility in the currency market independently, let alone collectively. After some big moves earlier this week, most currency pairs have consolidated as traders wait for the European Central Bank interest rate decision, the G20 meeting and the U.S. non-farm payrolls report. The U.S. dollar strengthened against the Euro and Swiss Franc but lost value against all of the other major currencies. This consolidation should just be a precursor to a bigger move.

The last trading day in the first quarter of 2009 has ended with a bang. The U.S. dollar sold off against most of the major currencies as repatriation flows come to an end. U.S. economic data was weak, but not a game changer and therefore currency investors chose instead to focus on the positive implications of Japan’s stimulus package and the IRS’ new tax break for U.S. car buyers. The currencies that are performing the best against the U.S. dollar are the ones whose central banks are not expected to adopt quantitative easing, namely the Australian New Zealand dollar.

The U.S. dollar capped the week off with a strong rally that may have set the tone for trading in the coming week. Despite a number of interesting political developments since Monday, the price action of most major currency pairs have been consolidative – up until now. Many factors have contributed to the sharp appreciation of the U.S. dollar, but for currency traders, their primary question is whether the rally can be sustained in the new and extremely busy trading week. Before even talking about the event risks, it is first important to remember that next week represents the end of the first quarter for many U.S. corporations and the end of the fiscal year for many Japanese companies. Therefore we may have a lot of action in the currency market that is related more to repatriation than economic fundamentals.

Compared to yesterday’s sharp moves in the currency and equity markets, trading has been relatively quiet. U.S. stocks meandered in and out of negative territory while the U.S. dollar traded higher against nearly all of the major currencies. Profit taking has hit the financial markets dragging equities and currencies lower. This consolidation gives investors the time to think about whether Monday’s rally is the beginning of a new bull market or just a strong bear market rally. Since March 6th, the S&P 500 has increased 23 percent, which is marginally less than some of the rebounds that we saw during the Great Depression. The point is that equities could still extend its gains while remaining in an overall downtrend.

On Tuesday, we said that being long dollars equals being long pessimism, but what is more relevant to recent price action is that being short dollars equals being long optimism. The U.S. dollar has sold off across the board following the Federal Reserve’s decision to buy U.S. Treasuries. Although the act of buying U.S. Treasuries is in of itself dollar bearish, the sell-off in the greenback also reflects the market’s confidence in the Fed’s actions. Given the trend of the U.S. economy, buying Treasuries was inevitable but rather than wait a few more months, the Federal Reserve decided to deliver the stimulus now and in turn give the U.S. economy its best chance at recovery.

A bank report that we read this week had an interesting line summarizing investors’ attitude towards the U.S. dollar over the past few months. They said that being long dollars means being long pessimism and we believe that this is a valid description of the recent price action in the currency markets. Today, the dollar weakened against every major currency except for the Japanese Yen. This weakness as baffling as it may seem is more of reflection of the market’s optimism than pessimism because equities are higher and gold prices are lower.

With no fireworks from this weekend’s 3 big event risks, the rallies in the currency and equity markets are fizzling. Having been up more than 150 points intraday, the Dow Jones Industrial Average ended the U.S. trading session down 7 points. This lack of follow through was replicated in the foreign exchange market with the Euro and British pound giving up earlier gains. Promises can only take the markets so far and the lack of concrete actions by the G20 has disappointed investors. Although we have previously mentioned that bear markets can rally as much as 25 percent, today’s intraday reversal is worrisome. Looking at the economic calendar this week, there is not much event risk to energize investors

This past week has been marked by recoveries in both the currency and equity markets thanks to better than expected U.S. economic data and reports of profitability from banks. Although the price action that we have seen thus far is still in line with a bear market rally, the move higher has been a breath of fresh air for many investors. For the time being, the downtrend in the EUR/USD has been broken. Even though the currency pair continued to edge higher, it remains to be seen whether the strength can continue. There are a lot of economic data due for release next week, but not before this weekend 3 big event risks – the G20 Meeting, OPEC Meeting and Bernanke’s first ever on-the-record television interview as Fed Chairman.

Volatility has ripped through the foreign exchange market as the U.S. dollar gave back its earlier gains. Safe haven flows drove the dollar higher at the beginning of the U.S. trading session, but the currency lost value when equities took off. The big story in the foreign exchange today was the Swiss National Bank’s controversial and nuclear decision to intervene in the currency market, raising fears of a global FX war. By coming into the foreign exchange market to sell Swiss Francs, the central bank has driven the Euro and U.S. dollar sharply higher. The gains in these currencies were exacerbated by the rally in U.S. equities and a stronger retail sales report. The rally in the foreign exchange market today indicates that risk appetite has improved.

Breakouts are beginning to occur across the foreign exchange market. After consolidating for the past few weeks, we have finally seen an upside breakout in the EUR/USD with the currency pair trading at the highest level since February 24th. USD/JPY has also fallen significantly and is at risk of breaking its March lows while the Australian and New Zealand dollars are attempting to break month long consolidations. The story today is dollar weakness. The greenback has weakened against every major currency except for the Canadian dollar. Other than the equity market’s feeble attempt to extend Tuesday’s gains, there was no major catalyst for the sell-off in the U.S. dollar.

With U.S. equities rising more than 5.5 percent today, one would expect the improvement in risk appetite to drive the U.S. dollar lower against all of the major currencies. Unfortunately we did not see a broad based sell-off in the U.S. dollar. The greenback only weakened against the Euro and commodity currencies because investors continued to bail out of British pounds and Swiss Francs. It is also interesting that the EUR/USD is well off its highs indicating that the market’s appetite for dollars has not waned dramatically. The catalysts for today’s rally are not convincing and the moves in the currency market are fizzling, which suggests that we have witnessed nothing more than a bear market rally.

All of the major currencies ended Friday’s trading session virtually unchanged against the US dollar. However the muted performance masks significant intraday volatility. The Euro for example raced to a high of 1.2754 following the US non-farm payrolls release but choked up nearly all of its gains on more uncertainty in the financial market. Similar price action was seen in USD/JPY. The currency pair dropped to a low of 96.58 in the European trading session but after a post payrolls rally it ended the US session above 98. The equity market was not spared from the volatility with the major indices falling to fresh 12 year lows before significant reversals. With no major US economic data near the beginning of the week, fear and uncertainty could lead to more volatility in the currency market.

As we have promised, trading currencies have become more interesting following the interest rate decisions in Europe. The next 24 hours should prove to be just as exciting for forex traders with the February non-farm payrolls report due for release. The US dollar has rallied significantly ahead of the payrolls report, which is traditionally the single most market moving economic data for the EUR/USD. The cohesive rally in the US dollar and the price of gold along with the sell-off in US equities indicate that risk aversion is the main theme of the day. This also provides a clue on how the dollar could trade following Friday’s non-farm payrolls report (February Non-Farm Payrolls Preview).

Things will get very interesting in the currency market over the next 48 hours. The Bank of England and the European Central Bank will be making interest rate decisions on Thursday and non-farm payrolls are due for release in the US on Friday. Alone, any one of these releases could trigger significant volatility in the currency market but together, they could easily lead to major breaks especially since the EUR/USD and GBP/USD have been fluctuating within tight trading ranges. The US dollar traded lower against all of the major currencies except for the Japanese Yen. Risk appetite has improved thanks to a new stimulus package for China, more details on the Treasury’s $75B mortgage plan and a stronger than expected service sector ISM report. The Fed’s Beige Book report signaled worsening economic conditions across the nation, but that failed to cause a dent in the currency or equity markets.

The US dollar extended its gains against the Euro, British pound and Japanese Yen as the key players in the recovery story disappoints the market. Overall the price action in the currency market has been muted and the dollar lost ground against other major currencies such as the Australian and New Zealand dollars. US economic data was weak but the dollar rally continued as traders focused on external rate decisions. The central bank of Australia left rates unchanged while Canada cut theirs by 50bp; next up are the Eurozone and UK rate decisions, both of which are expected to lower interest rates.

The uncertainty expressed over the threat of a deep US recession and the third CitiGroup bail-out drove the dollar index to a three year high. Apparently, the dollar has maintained some of its safe haven status. Equities have finished a volatile trading day as a result, plummeting 125 points at the open, only to rally back. Unfortunately the bears won out in today’s battle at the tune of -60 points. The month of February reaped a toll on any possibility of a US rebound, as the Dow stumbled to lows not seen since the nineties. Hopefully, March will have more to offer

Capital flight has driven the US dollar higher. On a day when President Obama signed the Economic Stimulus Package into law, the banking turmoil in Europe and the resignation of Japan’s Finance Minister has turned investors away from other major currencies. Even though the greenback is yielding next to nothing, investors are willing to park their money with the US government as long as they keep it safe. The lack of negative game changing news from the US has been very positive for the US dollar. The greenback and gold prices have been moving in tandem since January 14th. This unusual correlation is actually sending a strong message to currency traders.

This morning, the Bureau of Labor Statistics reported that January was another month of massive job losses. For the third time in a row, more than 500k Americans lost their jobs. The market was looking for payrolls to drop by 540k, but instead they fell by a whopping 598k (Instant Insight on January Non-Farm Payrolls). Yet, currencies and equities traded like non-farm payrolls increased rather than decreased but this baffling response to a very negative number can be easily explained by the prospect of help from Washington.

On Friday, the Bureau of Labor Statistics is expected to tell us that US employers fired another 500k people in the month of January. Surprisingly enough currencies and equities are trading higher ahead of the non-farm payrolls report which suggests that traders are not afraid of a bad number. Everyone knows that the US economy is very weak and major job losses will continue. Since traders are becoming immune to bad data, it may take job losses in the area of 600k to spook them (January Non-Farm Payrolls Preview). Instead, traders are looking beyond Friday’s non-farm payrolls report to the Monday, February 9th speech by US Treasury Secretary Timothy Geithner. According to a Treasury official, Geithner is expected to unveil a bank rescue plan next week. This is one of the few things that could strike a meaningful recovery in the currency and equity markets. If traders deem Geithner’s plan as satisfactory, we could see a further recovery in the financial markets despite the fact that the US economy will get worse before it gets better.

What to expect from a fundamental and technical basis for the US dollar, Euro, British pound, Japanese Yen and other major currencies in the year ahead.

Bank of England dropped the benchmark UK interest rate to 1.5% easing by 50bp as expected. The Monetary Policy Committee noted that the sharp drop in the pound provided additional stimulus to the UK economy tempering the need for more drastic rate cuts at the present time. The Central Bank acknowledged the severity of the UK recession stating that business and consumer confidence have declines markedly while noting that output is likely to drop sharply in the first half of 2009.

It has been an extremely volatile week in the currency market. On Monday, the EUR/USD was trading at 1.3364 and shortly after the European open on Thursday it hit a high above 1.47. However since then it has reversed violently to end the week back at 1.39. This type of price action is characteristic of an illiquid market that is uncertain about how to react to the drastic measures taken by central banks around the world. There was no US economic data released today, but there are reports that the White House has given $17B in loans to the Big 3 automakers. The US dollar strengthened against all of the major currencies except for the Japanese Yen. Next week is a lightened trading week with the Christmas holiday. US economic data is therefore jammed into Tuesday and Wednesday. We expect the final figures for third quarter GDP, housing market numbers, personal income, personal spending and durable goods next week. The data should continue to reflect the weakness of the US economy.

After seeing the US dollar sell off for 5 straight days against the Euro and Japanese Yen, we were not entirely surprised to see today’s recovery, especially on the heels of better than expected economic data. The market has become accustomed to disappointments so good news was a welcome change. The European Central Bank has also reduced the interest rate that it offers to banks that deposit with them in order to encourage lending. The 15 percent rally in the Euro has led many to people to believe that the ECB may reconsider their plan to hold interest rates steady in January and the deposit rate cut was seen as a step in that direction. Thin market conditions near the holidays have exacerbated the volatility in the currency market. However even though the greenback is higher today, we had both positive and negative news impacting the dollar.

With dollar denominated assets yielding next to nothing, we have continued to see money flow out of the US dollar. The greenback fell to the lowest level against the Euro since September and dropped to a new 13 year low against the Japanese Yen. The losses have been even more staggering since the beginning of the month. The dollar has fallen 14 percent against the Euro and 8 percent against the Japanese Yen. This significant sell off begs the question How Much Further Can the Dollar Fall? If you watched the price action in the currency market this past year, you will know that trends dominate. With only 2 weeks until the end of the year, we could be stepping into a longer phase of dollar weakness.

The US dollar fell to a 2 month low against the Euro following the Federal Reserve’s decision to cut interest rates by 75bp to 0.25 percent. The greenback is now the lowest yielding G10 currency and for that reason, we should see foreign selling of US dollars exacerbate. At 0.25 percent or more specifically, a target range of zero to 0.25bp, foreigners may not find the yield attractive enough to warrant the risk. Despite the selling that we have already seen in the dollar today, this could just be the beginning of a longer phase of dollar weakness that may last into the first quarter of 2009.