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THE STORIES IN THE CURRENCY MARKET

• U.S. DOLLAR: WHERE DOES THE FED FIT IN?
• EUR: RALLIES ON STRONGER DATA
• GBP/USD: SERVICES SECTOR EXPANSION CONTINUES
• AUD: WHAT TO EXPECT FROM THE RBA
• NZD: HITS 14 MONTH HIGH
• CAD: IVEY PMI AND BUILDING PERMITS ON TAP
• USD/JPY: FUJII MAKES A U-TURN

EXPECTATIONS FOR UPCOMING FED MEETINGS

CURRENT US INTEREST RATE: 0.25%					Chance of More Easing Has Increased
	11/4 Meeting	12/16
NO CHANGE	47.1%	53.5%
CUT TO 0BP	45.5%	40.9%
INCREASE TO 50BP	7.4%	3.2%
INCREASE TO 75BP	0.0%	0.0%

U.S. DOLLAR: WHERE DOES THE FED FIT IN?

The better than expected service sector ISM report and rally in U.S. equities has helped to drive the U.S. dollar lower against all of the major currencies. As we head into earnings season, which begins this week with Alcoa, the prospect of stronger results has offset the concerns raised by Friday’s weak non-farm payrolls report. With no major U.S. economic data due for release until Friday, risk appetite and announcements by central banks from other countries will drive the dollar. The fate of the U.S. dollar is once again tied to the fate of equities. Earnings in the second quarter were boosted by the weakness of the dollar and with the greenback falling further over the past 3 months, foreign earnings of multinational U.S. corporations should have benefitted. Of all the major currencies, the dollar dropped the most against the Australian and New Zealand dollars ahead of the Reserve Bank of Australia monetary policy announcement.

Where Does the Fed Fit In ?

However before we even get to the first of the major U.S. earnings reports, 3 central banks will deliver monetary policy announcements. This means that for the beginning of the week, central bank rhetoric will dominate trading. For the dollar this is important because traders will be positioning based upon how the Fed fits into the global picture of monetary easing and tightening. The Reserve of Australia monetary policy announcement this evening is probably the most anticipated. Of all the major central banks, the RBA is the closest to raising interest rates. Some people even believe that they could surprise the market with a rate hike as early as this evening. We on the other hand only expect the RBA to signal their intention to hike interest rates and not actually do it. Either way, as long as they do not grow more dovish, the monetary policy stance of Australia’s central bank will be in sharp contrast with that of the Federal Reserve. Recent comments from the Fed suggest that they have all intention to keep Quantitative Easing in place for as long as they can. As a result, hawkish comments from the RBA could drive the U.S. dollar to fresh 13 month lows against the Aussie. On Thursday, the European Central Bank and the Bank of England are scheduled to deliver their own announcements. No action is expected from either central bank, but reporters will attempt to get Trichet to clarify his stance on the euro which would undoubtedly have an impact on the EUR/USD. A number of Fed officials are also expected to speak this week including Hoenig tomorrow, Bernanke and Lacker on Wednesday followed by Kohn on Friday.

U.S. Service Sector Expands for First Time in 12 Months

The price action in the financial markets indicate that despite red flags like Friday's weak non-farm payrolls report, investors still want to be long risk. This sentiment was reinforced by the stronger than expected service sector ISM index which rose from 48.4 to 50.9 in September. For the first time in 12 months, activity in the service sector expanded which shows the long way that the U.S. economy has come over the past few months. Improvements were seen in all of the underlying components of the report except for prices paid, inventory sentiment and new export orders. The drop in new export orders is a bit concerning, but this subcomponent can be highly volatile. Interestingly enough, the employment component of the service sector ISM report increased which conflicts with the sharp acceleration in job losses. However, investors with the glass half full type of sentiment may look at it as a sign that job losses will improve significantly in October. In the meantime, there is no major U.S. data on the calendar for the next 24 hours.

EUR: RALLIES ON STRONGER DATA

For the second trading day in a row, the euro strengthened against the U.S. dollar and the British pound. Stronger economic data and dollar negative comments from ECB member Weber helped to drive the single currency higher. Weber foresees further dollar weakness in the near term. Eurozone service sector PMI was revised modestly higher due to improvements in France and Italy; Germany is beginning to lag the pack. At the start of the recovery in the Eurozone, Germany’s cash for clunkers program helped to spur aggressive growth but now that the program has passed, the pace of recovery in Germany is beginning to slow. Eurozone retail sales also fell less than the market had anticipated. Originally economists were looking for a 0.5 percent drop in consumer spending, but instead, retail sales fell only 0.2 percent, matching last month’s decline. This still marked the 15th consecutive month of weaker spending as rising unemployment crimps demand. Looking ahead, there are no major economic reports from the Eurozone but Switzerland has consumer prices due for release. Although EUR/CHF has rebounded off its recent lows, USD/CHF ended the U.S. trading session in negative territory. Inflationary pressures in Switzerland are muted and not likely to impact the Swiss National Bank’s monetary policy decisions.

GBP/USD: SERVICES SECTOR EXPANSION CONTINUES

The British pound failed to gain momentum even after better than expected economic indicators helped to boost the outlook for the U.K. economy. The service sector PMI index continued to outperform its peers, coming in at a healthy 55.3 in September versus the 54.1 the previous month. The industry is now performing at levels not seen since 2007 as the index continues to rise above the 50 level. The strong improvement in the services sector cannot be truly appreciated unless it is compared to other countries. The U.S., for instance, has just seen its services index reach into expansionary grounds, a feat that the U.K. accomplished five months ago. In addition to the PMI, we also got an interesting look into the health of the financial industry, which is a dominant portion of the non-manufacturing sector. The Confederation of British Industry conducted a survey that showed that banks grew “more confident”. Thanks to fiscal and monetary stimulus along with a general boost in growth, banks saw a surprising expansion in business volumes, particularly among trading and investment firms. However, the report went on to show that many businesses are planning to continue layoffs and remain skeptical as to whether future demand could support similar improvement. They are dealing with many uncertainties at this point, especially promises of regulatory overhaul. Nevertheless, the day showed improvement in what accounts for nearly 75 percent of British industry. Stock markets responded with decent gains after a disappointing two weeks. We will gain more insight into the rest of the economy tomorrow with Industrial and Manufacturing Production, along with NIESR GDP.

AUD: WHAT TO EXPECT FROM THE RBA

The upcoming Reserve Bank of Australia’s rate decision is probably one of the most anticipated events this week. The drivers in the Forex market have changed from an intense scrutiny of global risk to anticipation for the first major central bank to raise rates. The Australian economy seems to be in a prime spot for the RBA to start considering the removal of monetary stimulus. Combined with recent comments and spectacular economic data, it would be hard for anyone to expect otherwise. Keep in mind, that although Australia might be the first to go higher, the decision probably may not come until the end of the year even if some traders are positioning for a rate hike as early as this evening. With the strength of the Aussie slowing the recovery, we believe that a rate hike this month would be premature. However, what we do expect are comments that will reinforce the hawkish nature of the RBA and prepare the market for a rate hike closer to year end. Since the last monetary policy meeting, a lot has been said about potential future RBA decisions. Last month, Stevens noted that “Australia has done well” and “In due course, both fiscal and monetary support will need to be unwound.” Combine that with his consistent reference to current rates as being at “unusually low levels” and the stage seems to be set for at least concrete rate hike comments in their monetary statement. Stevens has not been the only one expressing his hawkish bias. After raising Australia’s growth forecast, the International Monetary fund threw its weight behind the support for RBA rate hikes. The fund concluded that "The recent evolution of industrial production, retail sales and confidence indicators suggests that Australia is on its way to recovery” and cautions that “there is need to implement strategies to unwind the expansionary policies.” The AUD/USD has already appreciated significantly ahead of the RBA meeting and we would not be surprised if the currency pair hit a fresh 13 month high before the announcement at 11:30pm ET. The New Zealand dollar reached that level this afternoon on the coattails of the Aussie. Aside from the RBA rate decision, the Australian trade balance, New Zealand Business Opinion Survey, Canadian building permits and IVEY PMI report are due for release over the next 24 hours.

USD/JPY: FUJII MAKES A U-TURN

USD/JPY loses its hold on earlier rallies as Japanese Finance Minister Fujii warned that if the yen keeps moving in a biased direction (which is up), they "will take action." This is the clearest and most direct warning that we have heard from the Finance Minister which suggests the new political party is not altering the country's long standing bias towards yen weakness. Only last month, Fujii appeared to favor yen strength over weakness but now he has made a complete U turn in the face of political pressure. At the Group of Seven Meetings, he said that intervention is a possibility if “currencies show an excessive move in a biased direction.” The question now is what exactly does he consider excessive? The yen is holding close to its yearly low and has dived more than 8% since mid-September. We already mentioned specific signs of distress coming from Toyota, and now Canon reported that each one yen appreciation hurts their bottom-line by more than Y4 billion. The Finance Ministers rather direct comments have failed to make much of an impression on the yen which suggest that he has lost some credibility as the threat of true intervention seems unlikely. Economic data will remain very light with only Loans & Discounts to keep in mind for tonight.

AUD/USD: Currency in Play for Next 24 Hours

The AUD/USD will be our currency pair in play for the next 24 hours. Australia has a critical day ahead with the Trade Balance at 8:30 pm ET or 00:30 GMT. However things really kick into high gear with the Reserve Bank of Australia’s rate decision which is scheduled for 11:30 pm ET or 3:30 GMT.

In anticipation to tomorrow’s rate decision, AUD/USD has reentered the Bollinger band buy zone with an impressive rally. If Aussie bulls get what they want at tonight’s meeting, the next battle for the AUD/USD will take place at the 0.8859 resistance or the October 1st high. If that level gives as well, resistance does not come in until the psychologically important 0.90 level. However, since traders are expecting a lot, disappointment is a distinct possibility. If the aussie takes a dive, both 0.8567, the October 2nd low, and 0.8477, the August 14th high, should stand in as support. Keep in mind that not only is the aussie jumping because of high expectations for the decision, but the possibility of a hawkish statement may already be priced in to the markets.

About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.