Forex Trading involves high risks, with the potential for substantial losses and is not suitable for all persons. Past performance is not necessarily indicative of future results.

THE STORIES IN THE CURRENCY MARKET

• U.S. DOLLAR: PUTTING UP A GOOD FIGHT
• EUR/USD: PACE OF RECOVERY RECEDING?
• GBP/USD: CAN THE GAINS BE SUSTAINED?
• USD/CAD: BIG WEEK AHEAD FOR CANADA
• AUD/USD: RBA COMMENTS COULD LIFT AUSSIE IN COMING WEEK
• NZD/USD: HITS FRESH 14 MONTH HIGHS BEFORE RETREATING
• USD/JPY: BOJ AND DPJ REMAIN DIVIDED

EXPECTATIONS FOR UPCOMING FED MEETINGS

CURRENT US INTEREST RATE: 0.25%					Rates to Remain Unchanged Throughout 2009
	11/4 Meeting	12/16 Meeting
NO CHANGE	44.4%	58.6%
Cut to 0%	55.6%	36.8%
Increase to 0.50%	0.0%	4.6%
Increase to 0.75%	0.0%	0.0%

U.S. DOLLAR: PUTTING UP A GOOD FIGHT

It has been a tough week for the U.S. dollar, but the greenback is putting up a good fight. After hitting fresh year to date lows on Friday, the dollar staged a dramatic recovery that led many currency traders to wonder if we are finally seeing a turn in the dollar. The greenback ended the last trading day of the week higher against nearly all of the major currencies. In fact, it was the first time this week that the dollar closed higher than it opened against the euro and Australian dollar. During strong trends like the one that we are in now, traders look at every hiccup as a potential of being “the” top or bottom in a currency pair.

Pause or Turn?

Although we believe that there are many reasons for why the dollar should continue to fall, we also recognize that it has become extremely oversold. Every trend in the currency market has shallow or deep retracements and the latest “reversal” should be just that. In order for a full fledged turn to occur, the dollar would need to rise more than 3 percent. This past week, we learned that the Federal Reserve is still open to the idea of further asset purchases and monetary stimulus which is one of the primary reasons why the dollar may have a hard time rallying. In a world where other central banks are growing more hawkish and taking active measures to unwind their stimulus, the possibility of the Federal Reserve moving in the opposite direction is unequivocally dollar bearish. Unless and until the Fed suggests otherwise or other central banks step in and actively weaken their own currencies via physical or verbal intervention, there is no reason why the trend in the dollar should change. With that in mind however, we have a number of central bank related events next week that could help the dollar. The Bank of Canada has a monetary policy announcement and if they express extreme concern about the strength of their currency, it could boost the dollar. The same is true if the minutes from the Bank of England revealed continued to desire to increase stimulus. Also, the Beige Book report will be due for release and it will shed more light on the latest developments in the U.S. economy. In addition to these event risks, producer prices, housing starts, building permits, jobless claims, leading indicators, and existing home sales are due for release.

Understanding the Rally in USD/JPY

One of the big breakout moves in the currency market this week is the rally in USD/JPY. The currency pair has been tracking U.S. bond yields for the past year and the recent uptick in 10 year bond yields coincided perfectly with the breakout in USD/JPY. It may be fruitful for USD/JPY traders to keep an eye on this correlation.

Source: Bloomberg

Economic Data Review

As for this morning’s economic reports, they only had a marginal impact on the U.S. dollar. Foreign purchases of long term U.S. securities increased by $28.6B in August, but the rise was offset by a downward revision to the prior month's report. Total purchases including long and short term securities rose by $10B. After the large drop in foreign demand in July, a rebound is normal. Investors moved their money from short to long term Treasuries, reflecting increased confidence in the outlook for the U.S. economy. France was the biggest buyer followed by HK, Japan, the U.K. and Russia. China was actually a net seller, but the amount they sold was so small that it is barely meaningful. Hedge funds in the Caribbean were the biggest net sellers. Overall, the latest report indicates that investors have not been so discouraged by the dollar's weakness that they have completely stop buying dollars. However the dollar weakened more dramatically in September and October therefore it will be interesting to see if this trend continues. Meanwhile one sector that is benefiting from the weaker dollar is manufacturing. Yesterday we saw a healthy rise in the Empire State manufacturing survey and today, industrial production rose 0.7 percent in September following an upwardly revised growth of 1.2 percent the previous month. According to the University of Michigan, Consumer Confidence pulled back this month with the index falling from 73.5 to 69.4. Given the drop in the IBD/TIPP Economic Optimism index, the deterioration in confidence should not be entirely surprising. Even though equities have extended their gains, job losses accelerated last month.

EUR/USD: PACE OF RECOVERY RECEDING?

The big question for the Eurozone next week is whether or not the pace of recovery is receding. Germany and France were one of the first countries to rise out of recession but now there is growing evidence the recovery is losing traction. The trade surplus in the Eurozone turned into a deficit in the month of August as exports fell 5.8 percent. Imports also declined but by only 1.3 percent. This clearly suggests that the strength of the euro is indeed having a detrimental impact on the Eurozone economy. If this trend continues, the ECB may not be able to ignore it for long. However in the meantime, comments from ECB officials suggest that they are still focusing on when to implement an exit strategy. They have made it clear that they do not believe now is the right time but the tone of their statements indicate they are thinking and preparing the market for an eventual exit. Even though the slowdown in the pace of recovery is coming primarily from Germany, it appears that the Germans themselves are not worried. Economy Minister Guttenberg said this morning that “the dollar’s weakness is not a cause for concern for exporters. EU Minister Junker who is usually the first to complain about the euro’s strength also added that “they are not too concerned” with the euro exchange rate. So for the time being, European officials are not worried about the euro rising further and therefore the market should not be all that weary of intervention. The most important economic releases to watch this week will be German producer prices, Eurozone current account numbers, German IFO report and PMI figures from the entire region. These reports will shed more light on whether the pace of recovery in the Eurozone is really receding.

GBP/USD: CAN THE GAINS BE SUSTAINED?

After yesterday’s impressive rally, the pound only managed to come away with small gains against the dollar. However, the run-up in the pound is much more impressive in EUR/GBP which posted its weakest week since June. The Pound appears to finally be coming around after lagging other currencies throughout August and September. However, despite recent rallies, some analysts believe that the weakness in the pound has reached “emergency levels”. Mr. King, who is the chief economist at HSBC, Britain’s largest bank, indicated that there was a distinct risk of a “sterling crisis”. He believes that the currency has been “seriously undermined” thanks to the “benign neglect” coming from the Bank of England. In fact, the BoE’s interest in the falling pound has not reached any level of prominence. However, when considering the currency has fallen 17% year-to-date, there is a distinct possibility that the bank may have to address the issue if current strength does not hold up. Mr. King also sees fit that the central bank maintain its quantitative easing purchases. We are heading into a busy week that includes the BoE’s Minutes for Wednesday, Retail Sales for Thursday, and GDP for Friday. The main thing to look for in the minutes is any hints that the BoE will continue to ease, because if there is, the pound could fall just as quickly as it has risen. Later in the week, GDP numbers are due for release. Current consensus shows that economists expect the economy to finally grow after five quarters of contraction, which would mean that the recession in Britain has finally ended.

USD/CAD: BIG WEEK AHEAD FOR CANADA

The Canadian, Australian and New Zealand dollars ended the U.S. trading session lower against the dollar. Canada was the only country with any major economic reports. Consumer prices held steady in the month of September, which actually drove annualized CPI growth from 0.8 percent down to 0.9 percent. Next week is a big week for Canada. The Bank of Canada has a monetary policy decision and even though they are not expected to lift interest rates from their record low level of 0.25 percent, there could still be a great deal of volatility in the Canadian dollar. The BoC will be faced with the tough of decision of deciding whether to put greater emphasis on the improvements in the economy or on the rapidly appreciating Canadian dollar. Last month Canada reported the second month of positive job growth with the unemployment rate dipping from 8.7 to 8.4 percent. If the BoC emphasizes the damaging impact of their currency over the improvements in economy, we could see a near term peak in the Canadian dollar. Alternatively, if they downplay the constraints brought by a strong currency, the CAD could accelerate its move towards parity. Aside from the BoC rate decision, Canadian retail sales will be released on Thursday. There are no major economic reports from New Zealand but the RBA is expected to release the minutes from their latest monetary policy meeting and a hawkish tone could restore the rally in the Aussie.

USD/JPY: BOJ AND DPJ REMAIN DIVIDED

Although USD/JPY staged another strong performance, the momentum behind surge yesterday is easing as the slide in equities curbed risk appetite. The Yen crosses, on the other hand, were much weaker with AUD/JPY sapping a 10-day consecutive rally. The Cabinet Office released their economic assessment today, the first under the new ruling Democratic Party of Japan. The report explained that while recovery does seem to be taking hold, the country remains in a “difficult situation”. Members from the cabinet concluded that because of some fundamental weaknesses they could not be “optimistic about the outlook.” However, in the same day, BoJ Governor Masaaki came out and largely discredited such findings. He concluded in a speech today that the economy was improving thanks to the moderation in capital spending. This is the second occasion so far this week that clearly painted a divided government, with the BoJ on one end, and the DPJ on the other. When the BoJ gave optimistic guidance after their rate decision, Finance Minister Fujii quickly shot it down as being unrealistic. The Cabinet also announced today that it will free up more than $30 billion from the country’s stimulus package in efforts to fulfill on some of its campaign promises to revive growth. On the way for next week will be the BoJ’s Minutes which should further clarify the bank’s optimism, along with the Leading Index for Tuesday and Trade Balance for Wednesday.

USD/JPY: Currency in Play for Next 24 Hours

USD/JPY will be the currency pair in play for Monday. In Japan, we will see the release of the BoJ’s Meeting Minutes and the Tertiary Industry Index at 7:50 pm ET or 23:50 GMT on Sunday. We will also have Nationwide and Tokyo Department Store Sales on Monday at 1:30 am ET or 5:30 GMT. Momentum in USD/JPY appears to be waning but the currency pair is still hovering near the Buy Zone, which we determine using Bollinger Bands. If the rally should find new legs, resistance stands at 91.73 which was the low from July 13th. On the way down, support should stand at 90.00, which is not only a psychological level but also corresponds with the 20-day simple moving average. If optimism is confirmed through the BoJ minutes or a further slide in equities, we could see USD/JPY approach the critical 90.00 level.

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.