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Bleak Fed Forecasts Overshadow Obama Mortgage Plan

Last updated 2/18/2009 5:20 PM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

THE STORIES IN THE CURRENCY MARKET

• US DOLLAR: BLEAK FED FORECASTS OVERSHADOW OBAMA MORTGAGE PLAN
• GBP/USD: BOE MINUTES SUGGEST 50BP RATE CUT IN MARCH
• EUR/USD: HEADED TOWARDS 2 YEAR LOWS?
• AUD/USD: OPTIMISTIC OUTLOOK FROM RBA KEEPS AUD BID
• USD/CAD: WHOLESALE SALES FALLS BY LARGEST AMOUNT SINCE 2003
• NZD/USD: GOLD PRICES AT $984.60 AN OUNCE
• USD/JPY: CHINA HAS OTHER PLANS FOR THEIR RESERVES

EXPECTATIONS FOR UPCOMING FED MEETINGS

US DOLLAR: BLEAK FED FORECASTS OVERSHADOW OBAMA MORTGAGE PLAN

There were no coordinated moves in the currency market today with the dollar rising against the Euro, British pound and Japanese Yen but falling against the commodity currencies.  US stocks oscillated between positive and negative territory as bleak forecasts from the Federal Reserve offset optimism from President Obama’s Mortgage Plan.  It is quite discouraging that the financial markets have not responded positively to the numerous programs announced by Obama since he has taken office.  Apparently he is not as effective in bolstering investor confidence as he has been in boosting public confidence prior to his election.  

Bleak Forecasts from the Fed

According to the minutes from the most recent monetary policy meeting, the Federal Reserve expects GDP growth to contract by 0.5 to 1.3 percent this year.  Additional layoffs are also expected to drive the unemployment rate as high as 8.8 percent, while weak demand could reduce inflation (as measured by core PCE (personal consumption expenditures) growth to as low as 0.9 percent.  These numbers all represent a more pessimistic outlook by the central bank.  Fed officials also saw no indication of stabilization in the housing market while some saw a risk of deflation.  At his speech in Washington today, Bernanke avoided using the word deflation, but he did say that inflation will remain quite low for some time.  A 2 percent long term inflation goal was also supported by many Fed officials and mentioned indirectly by Bernanke.  Having an inflation target will help to anchor the market’s expectations and hopefully draw away from the obsession with deflation.  For those investors looking for some color on what the Federal Reserve could do next, the minutes contained nothing new – there was no commitment to purchasing long term Treasuries.   We will have to wait for Bernanke’s semi-annual Humphrey Hawkins testimony on the economy and monetary policy next week for more guidance on new non-traditional monetary policy measures.  

Obama Extends Aid to Homeowners

The bleak forecasts from the Federal Reserve offset earlier optimism about President Obama’s foreclosure program. At $75B, the program is larger than previous estimates and could help up to 9 million struggling homeowners refinance mortgages and avoid foreclosures. Focusing on the housing market is a critical step to stabilizing the US economy.  With housing starts and building permits falling to the weakest level on record, direct relief for consumers and will help to accelerate a recovery.  The US will be using Fannie and Freddie to help with the loan refinancing and to do so they have boosted Fannie and Freddie's stock purchases to up to $200B and their mortgage portfolios to $900B.  These funds will come out of the Financial Stability Plan.  With trouble brewing in Europe, the new programs announced by the Obama Administration should keep the US dollar attractive to investors over the medium term.   

Another Round of Weak US Data?

There are a number of US economic data due for release on Thursday including producer prices, jobless claims, leading indicators and the Philadelphia Fed index.  The smaller decline in import prices suggests that producer prices could also fall at a slower pace.  Economists expect the same improvement but they are actually predicting a rise in PPI which may be a bit optimistic. Jobless claims are expected to remain above 600k, while a further deterioration is expected for the Philadelphia Fed manufacturing index and leading indicators.  

GBP/USD: BOE MINUTES SUGGEST 50BP RATE CUT IN MARCH

The British pound held steady against the US dollar and Euro as the minutes from the latest monetary policy meeting revealed that the Bank of England was reluctant to take interest rates below 1 percent.  Monetary policy committee member Blanchflower voted for a full percentage point rate cut, instead of the half point cut that was actually delivered, but he has traditionally favored more aggressive action by the BoE.  Although inflation is expected to fall below the central bank’s target, the MPC feared that cutting interest rates by more than 50bp would impact the lending ability of UK financial institutions.  These comments alone could have been bullish for the British pound but they weren’t because even though MPC members were reluctant to ease more significantly, they voted unanimously to seek the authority from the Chancellor to start purchasing UK Gilts.  By doing so, they would officially embark on Quantitative Easing.  Buying UK Gilts means that the BoE is injecting money into the financial system.  This is bearish for the British pound because the central bank may need to print money to fund their purchases.  Given the tone of the MPC minutes, the BoE will only cut interest rates by 50bp next month and there is a chance that they may stop there.   The CBI manufacturing survey was weaker than expected with orders falling to the lowest level since 1992.  Public Sector Finances are due for release tomorrow along with money supply data.

EUR/USD: HEADED TOWARDS 2 YEAR LOWS?

The Euro was the only higher yielding currency to weaken against the US dollar as investors remained concerned about the exposure of Western European Banks to Eastern Europe borrowers.  At the same time, Eastern European nations like Poland are growing more concerned about the decline in their currency.  According to Reuters, the Polish Finance Minister confirmed that the central bank sold Euros via BGK, their state-owned bank.  Since October, the Polish Zloty has fallen 32 percent against the Euro; half of that decline occurred in 2009.  In the US, the credit crisis was sparked by loans to subprime borrowers.  In Europe, Swiss, Eurozone and Swedish banks lent mortgages denominated in Swiss Francs and Euros to people in Poland, Czechoslovakia, Hungary and other Eastern European nations. The practice of getting foreign currency denominated mortgages with lower yields was actually quite popular but as we have seen with the blowup of subprime mortgages, if Eastern Europeans with Euro mortgages default, we could see a wave of losses for Western banks. In addition, with limited capital of their own, Eastern European nations may be forced to ask the IMF for help.  With a time bomb waiting to explode in Europe, we continue to believe that the EUR/USD is headed to its 2 year low of 1.2330.

AUD/USD: OPTIMISTIC OUTLOOK FROM RBA KEEPS AUD BID

The Australian, New Zealand and Canadian dollars strengthened against the greenback today.  Gold prices continued to rise, helping to support the AUD/USD.  The yellow metal is closing in on the $1000 mark, having settled at $984.60 an ounce this afternoon. Compared to the rest of the world, the Reserve Bank of Australia is relatively optimistic about their economy.  Last night, RBA Deputy Governor Edey said that Australia will outperform global economies and will avoid recession thanks to substantial monetary and fiscal measures.  Australian economic data was mixed with retail sales excluding inflation rising 0.8 percent in the fourth quarter and leading indicators falling 0.4 percent.  Meanwhile Canadian Wholesale Sales fell 3.4 percent, the largest amount since 2003. This suggests that we may see similar weakness in retail sales.  Canadian leading indicators are due for release tomorrow.  Given the deterioration in the labor market, we expect leading indicators to be weak.

USD/JPY: CHINA HAS OTHER PLANS FOR THEIR RESERVES

USD/JPY was driven to a 6 week high following the announcement of US President Obama’s foreclosure relief program.  Although leading indicators improved modestly in the month of December, the rebound does not draw away from the severe weakness in the Japanese economy.  Unfortunately, the export dependent nature of Japan makes an internally generated recovery nearly impossible.  In order for the economy to stabilize, we would need to see external demand from countries like the US and China improve first. The Bank of Japan has a monetary policy meeting this evening at which they are expected to leave interest rates unchanged at 0.1 percent.  The central bank will be under pressure to announce asset purchases, but that may not have much impact on the currency market.   Meanwhile a Chinese official warned that the country could use their foreign reserves in ways that would better serve their domestic economy like buying natural resources.  China recently made a $25B oil deal with Russia.  Looking ahead, this suggests that although China is still expected to buy US Treasuries, they will be doing so at an increasingly slower pace.  

USD/JPY: Currency in Play for Next 24 Hours

USD/JPY will be the currency pair for the next 24 hours.  US Producer Prices are due for release at 8:30 am ET or 13:30 GMT while the Philadelphia Fed index will be released at 10:00 am ET or 15:00 GMT. Japan has Department Store Sales at 12:30 am ET or 5:30 GMT.

  USD/JPY has been trading in the Bollinger Band buy zone since the beginning of the week, but today’s gains have been impressive. However it remains to be seen whether the currency pair can press higher as two very significant resistance levels linger ominously above. The closest of such levels is 94.00 - 94.63 range, where we have today’s high, the 100-day SMA and January high. An even stronger level of resistance is at 96.11, the 38.2% retracement of the August to December bear wave.  However as long as the currency pair remains 91.85 on a closing basis, it is still in the buy zone. A break of that level would open the door for a move to 90.00.  

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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.