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EUR: Dear IMF, Do We Have A Deal Or Not?

Last updated 2/9/2012 4:41 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

• EUR: DEAR IMF, DO WE HAVE A DEAL OR NOT?
• USD: MORE SIGNS OF IMPROVEMENT IN US ECONOMY
• GBP: BOE BOOSTS QE PROGRAM BY GBP50 BILLION
• CAD: HOUSE PRICE GROWTH SLOWS
• AUD: RBA TO LEAVE DOOR OPEN FOR ADDITIONAL EASING
• NZD: WORK FORCE PARTICIPATION DECLINES
• JPY: YEN CONTINUES TO SLIDE

EXPECTATIONS FOR UPCOMING FED MEETINGS

EUR: DEAR IMF, DO WE HAVE A DEAL OR NOT?

After months of anticipation, the Greeks finally got their act together and agreed to all of the Trioka’s harsh austerity measures but unfortunately it was not enough.  The announcement of a Greek deal should have had a big impact on the EUR/USD but the currency pair’s gains were limited by the amount of the concerns from the IMF and other Eurozone nations. Rather than applauding the breakthrough by the Greeks, European leaders spent most of their airtime expressing skepticism.  The problem is that Greece has not provided sufficient information to assure creditors that their deficit reduction targets can be met and therefore it has been impossible for Euro area Finance Ministers to make a quick decision on releasing aid.  The IMF in particular is worried about any potential changes in economic policies if a new leader is chosen in the April elections. They also want Greece to implement plans that they pledged in return for the first bailout payments before providing additional financing. Eurozone nations who had already been reluctant about greater financial commitments were quick to signal that if the IMF doesn’t have faith in Greece, neither do they. Germany’s Finance Minister said that the Greek deal on spending cuts is “insufficient” because their plans to cut spending are not enough to fulfill bailout conditions. Ireland’s Finance Minister also agreed that there are “gaps” in the “logic” of the Greek deal and so he cannot say that a deal has been completed.  The IMF appears to share this view according to Gerry Rice, the head of IMF communication who said the next step is to continue discussions with the Greek authorities and European partners on the overall program. Other countries such as Austria also want to see the implementation of the first package before approving a second. With so much opposition, an immediate endorsement of Eurozone Finance Ministers appears unlikely and an approval by the German Parliament is far from a done deal. Rather than diminishing the uncertainty, the Greek deal raised more questions and highlighted the amount of hurdles that need to be overcome for Greece to avoid a default. The price action of the EUR/USD suggests that even though investors may be nervous, they remain optimistic that everything will be sorted out by March 20 ^th because no one wants to witness a Greek default. In the meantime, expect the Greek debt deal will to continue to dominate the headlines and the market’s appetite for euros over the next 24 hours.

As expected, the ECB left interest rates unchanged today at 1.00 percent. According to ECB President Mario Draghi, tentative signs of stabilization have now been confirmed, inflationary pressures are broadly balanced and the region no longer faces “substantial” downside risks. These comments suggest that the central bank has grown slightly less pessimistic which should have been positive for the EUR/USD if not for their plans to expand collateral rules to include more trivial and riskier assets.  As Draghi admits, the decision was not unanimous and will require stringent risk management because the ECB is playing with fire. The decision was clearly aimed at allowing more collateral to be posted for this month’s LTRO. With a major LTRO operation set for the end of the month, the prospect of continued liquidity and cheap money should keep credit markets supported and the EUR/USD bid. For the time being, the EUR/USD is struggling to break above 1.33 but if and when the bailout funds are released, the EUR/USD will be trading closer to 1.35.

USD: MORE SIGNS OF IMPROVEMENT IN US ECONOMY

With the S&P 500 rising to its highest level in 7 months, we expect the U.S. dollar to trade lower against most of major currencies but the greenback barely budged against anything except for the Japanese Yen. This suggests that the participation level in today’s rally is low with many investors still waiting for a clear resolution before jumping into any new positions. There is little to report on with regards to developments in the U.S. outside of weekly jobless claims. For the week of February 4th, claims fell to 358k from 373k, which is just a hair above 3.5 year low. The four week moving average dropped to 366k while continuing claims rose slightly to 3.515 million. The jobless claims report is consistent with a gradual improvement in the labor market but the Federal Reserve's lack of faith in the sustainability of the improvements downplayed the significance. The trade balance and the University of Michigan consumer sentiment reports will be released on Friday. We expect both reports to show continued improvement in the U.S. economy. According to the ISM, manufacturing activity in the U.S. is on the rise with increases in new orders and export orders. This bodes well for the U.S. trade balance and suggests that the deficit may not expand as much as economists expect. At the same time, consumer confidence may have increased further in the month of February based upon the IBD/TIPP Economic Optimism index which rose to a one year high. Good data will help to boost risk appetite but may not do much for the U.S. dollar.

GBP: BOE BOOSTS QE PROGRAM BY GBP50 BILLION

The Bank of England’s decision to increase their Quantitative Easing program did not deal much of a blow to the British pound because it was widely expected. In fact, before the latest round of better than expected U.K. data, the market had looked for a 75 billion pound increase in asset purchases this month instead of the 50 billion increase announced this morning. However, with credit conditions easing and the possibility of inflation being stickier than the BoE had anticipated, the central bank decided on a more moderate increase in stimulus. The Bank rate was left unchanged at 0.5 percent but total asset purchases will now rise to GBP 325 billion in the next 3 months.  Still, the Monetary Policy Committee is not done – with the pace of expansion remaining weak and inflation expected to fall sharply this year, they will probably expand QE further in the coming months. Next week’s Quarterly Inflation Report will provide a clearer outlook on exactly how aggressive the MPC will be. Back in November, when they last released the report, the MPC basically outlined the case for as much as GBP 200 billion worth of additional easing. Depending on their adjustments to their inflation and growth outlook, less stimulus may be necessary. U.K. producer prices are due for release tomorrow and inflationary pressures are expected to rise slightly in January after declining sharply in December. The manufacturing and trade sector continues to show signs of improvement with industrial production rising 0.5 percent and manufacturing production rising 1.0 percent at the end of the year. The country’s trade deficit also shrank from –GBP8.9 billion to –GBP7.11 billion.

CAD: HOUSE PRICE GROWTH SLOWS

The Canadian, Australian and New Zealand dollars ended the day virtually unchanged against the greenback. The CAD increased slightly despite a softer rise in house prices. The new housing price index rose 0.1 percent in December, down from 0.3 percent growth the prior month. In Australia, business confidence edged higher in the fourth quarter thanks to stronger economic data out of China and rate cuts by the RBA. Labor market conditions were mixed in New Zealand with the unemployment rate dropping to 6.3 percent and employment change rising by a mere 0.1 percent in the fourth quarter. This data shows that people are dropping out of the work force which is not a good sign for any economy. However given the optimistic words that we have heard from the Reserve Bank of New Zealand in recent weeks, the central bank may look at the latest report as nothing more than quirk until it becomes a more consistent trend. Credit card spending numbers are due for release from New Zealand this evening and consumer demand is expected to grow. The Reserve Bank of Australia will also release its statement on monetary policy – we expect the RBA to indicate that their decision to hold rates steady was a pause and not an end to their easing cycle. From Canada, we expect the latest trade numbers and unfortunately the country’s surplus is expected to have shrunk in the month of December. Inflation in China slowed but not by as much as economists expected, leaving the PBoC on hold for the time being. Chinese trade numbers are still due this week and the outcome could have a more significant impact on the commodity currencies.

JPY: YEN CONTINUES TO SLIDE

The Japanese yen has weakened against all of the major currencies today. Risk appetite improved with Greece passing another round of austerity plan. Although the yen’s recent weakness has been a positive sign for the Bank of Japan, the Japanese economy has shown more downside risks as the core machinery orders fell more than expected. According to the Cabinet Office, the changes in private-sector purchase orders, an indicator of capital spending, decreased 7.1 percent from the month prior in December. The electrical machinery makers and telecommunication manufacturers logged 19.8 percent and 18.2 percent decline, respectively. The overhanging European crisis and yen’s appreciation have been the major headwinds for Japanese exporters. Since the supply chain disruption caused by the earthquake in March 2011, machinery orders have become more volatile. The Cabinet Office also maintained its view on the data, stating orders are “seesawing.” Despite the wide variability of the private orders, the weakening sign has brought more criticism on BoJ’s monetary policy. Prime Minister Yoshihiko Noda told Diet members last month that he expects the central bank to take “bold” actions to address the yen’s rise and fight deflation. Noda also urged more cooperation between the government and BoJ at a budget meeting. Meanwhile, the bank Governor Masaaki Shirakawa said on Thursday that the BOJ has been reviewing the scale of its unconventional financial asset-buying program, currently Y55 trillion, by monitoring the economic climate. "We increased the size of our asset-buying fund three times last year in March, August and October. We have been reviewing the amount based on Japan's economic conditions," Shirakawa told the lawmakers. The recent downside risks could call for more stimulus from the BoJ as the bank prepares for their monetary meeting next week. Looking forward to tomorrow, the only thing on the docket is the corporate goods prices.

GBP/USD: Currency in Play for Next 24 Hours

For the next 24 hours, our currency pair in play will be GBP/USD. The UK will release the producer price index at 4:30AM ET/ 9:30 GMT. From the US, we expect the trade balance at 8:30AM ET/ 13:30 GMT, followed by U of Michigan consumer confidence at 9:55AM ET/ 14:55 GMT.

Despite the early rally, GBP/USD remains in the range-trading zone, which we determined using the Double Bollinger Bands. Today’s high of 1.5884 could serve as the nearest resistance level. Should the pair garner enough momentum, the psychologically significant 1.6000 handle could further contain the pair’s rally. On the downside, the 1.57 handle where the pair has closed multiple times could serve as the first level of support. Further down, GBP/USD ‘s 50-day SMA and the 23.6% Fibonacci level could provide major support at 1.5589. The Fibonacci retracements were drawn from the high in April 2011 to the swing low in January.

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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.