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Long Dollars Equals Long Pessimism

Last updated 3/17/2009 5:41 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

• LONG DOLLARS EQUALS LONG PESSIMISM
• GBP/USD: WEAKENS AHEAD OF BOE MINUTES AND EMPLOYMENT DATA
• EUR/USD: ECB RELUCTANT TO CUT RATES BUT OPEN TO UNCONVENTIONAL POLICIES?
• USD/CAD: OIL PRICES HIT 3 MONTH HIGHS
• AUD/USD: RBA OPEN TO FURTHER RATE CUTS
• NZD/USD: GOLD PRICES UNCHANGED
• USD/JPY: BOJ RATE DECISION AHEAD

EXPECTATIONS FOR UPCOMING FED MEETINGS

LONG DOLLARS EQUALS LONG PESSIMISM

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.   

Stronger Economic Data, Healthier Outlook for Banks

Today’s optimism stemmed from stronger housing market data and two major announcements from the Obama Administration about expanding the FDIC’s Temporary Liquidity Guarantee Program (TLGP) and delaying stricter capital rules.  After slipping lower every month since June, housing starts and building permits have finally rebounded.  Although the improvements in the housing market are encouraging, it is important to remember that starts and permits hit a record low the previous month ( Video: Housing Surprise ).  Producer prices were mixed leaving lower price pressures a bigger concern for the Federal Reserve.  Consumer prices are due for release tomorrow - they are expected to increase, but not at a particularly noteworthy rate.  Instead, the markets are responding positively to the government’s announcements which are aimed at maintaining stability in the financial sector.  The recent improvement in risk appetite has been spurred by a possible return to profitability by some of the nation’s largest banks and the expansion of the TLGP plus the delays of stricter capital rules only helps to maintain the potential profitability.  

All Eyes on Bernanke

Meanwhile investors are optimistic going into Wednesday’s Federal Reserve interest rate decision.  There are 3 possible outcomes for the FOMC meeting – the script remains the same ( FOMC Preview ), the central bank only increases current purchases of MBS and agency debt or they commit to buying longer term Treasuries. The option that the Fed chooses will reflect on the U.S. central bank’s degree of pro-activeness and their belief in whether more trouble lies ahead for the U.S. economy. We believe that the most likely outcome for the March FOMC rate decision is a wait and see attitude from the Federal Reserve.  With no further room to ease, tomorrow’s rate announcement could be anti-climatic, which is a big departure from the currency market’s previous obsession with the FOMC rate decisions because of the volatility that it can have on the U.S. dollar.  We do not expect the Fed to follow in the footsteps of the Bank of England who recently announced that they will begin purchasing U.K. Gilts, but if they do so, it would be dollar negative.

GBP/USD: WEAKENS AHEAD OF BOE MINUTES AND EMPLOYMENT DATA

The British pound did not participate in the broad based currency market rally on the fear that tomorrow’s release of the Bank of England minutes and employment data will remind traders of the difficult times ahead for the U.K. economy and the British pound.  The central bank cut interest rates to 0.5 percent at their latest monetary policy meeting and officially began Quantitative Easing.  Having made these drastic decisions, we expect a pessimistic tone from the BoE minutes as the central bank explains their decision to dive head first into Quantitative Easing.  In addition to the BoE minutes, labor market numbers are also due for release. The sharp decline in the employment component of manufacturing, service and construction sector PMI suggests that the pace of job losses exacerbated last month.  The unemployment rate should climb to 6.5 percent, the highest level in more than a decade.  Earnings will also fall as companies cut pay.  Another 1 million British workers could lose their jobs over the next 2 years as the recession takes an unexpected turn according to Oxford Economics.  If they are right, then expect more weakness in the British pound.  

EUR/USD: ECB RELUCTANT TO CUT RATES BUT OPEN TO UNCONVENTIONAL POLICIES?

The EUR/USD is testing the 1.30 level for the second time in a row.  Stronger economic data has helped fuel the currency pair’s latest gains with the ZEW survey beating expectations. The index of investor confidence in Germany printed at -3.5, the highest level since July 2007.  This dramatic improvement in confidence indicates that analysts and investors expect the German economy to improve.  Although we believe that they are overly optimistic, the rise in confidence can be largely attributed to the rebound in the equity markets and the ECB’s significant interest rate cuts. European Commission President Jose Manuel Barroso forecasted that Eurozone unemployment will rise above 10 percent and if he is right then investors are wrong.  Opel, a subsidiary of GM, continued talks with the German Finance Minister on a possibility of a loan in the amount of £3.1 billion euro’s or $4.3 billion in order to help it through the economic downturn. Meanwhile, ECB member Draghi reiterated the central bank’s overall belief that they are running out of room to cut interest rates.  The central bank is nearing the end of their easing cycle as ECB President Trichet went out of his way to point out that 6 month and 1 year Eurozone rats are less than U.S. rates.  Although, further rate cuts may be limited, the central bank is studying unconventional policies such as credit easing.  

USD/CAD: OIL PRICES HIT 3 MONTH HIGHS

The continual rally in U.S. equities has driven the Canadian, Australian, and New Zealand dollars higher against the U.S. dollar.  Canadian economic data was mixed with manufacturing shipments continuing to fall, albeit at a slower pace.  Labor productivity also turned negative in the fourth quarter after rebounding in Q3.  Despite these mixed economic reports, the big story affecting the Canadian dollar is the surge in oil prices.  OPEC did not cut production this weekend, but oil prices continued to rise, hitting a 3 month high this afternoon.  There was no economic data from New Zealand, but the minutes from the most recent Reserve Bank of Australia meeting revealed that the central bank is still open to cutting interest rates.  Even though they left rates unchanged earlier this month, they actually considered cutting rates but chose to pause instead to “gauge the effect of past easing.”  Their attitude is similar to that of the European Central Bank who paused in February only to cut again in March.  Canadian wholesale sales are the only piece of economic data due for release from the 3 commodity producing countries and the report will shed some light on how Canadian retail sales may fare on Friday.  

 The Big Move in Oil

USD/JPY: BOJ RATE DECISION AHEAD

USD/JPY has had a very difficult time breaking above the 100 level as repatriation by Japanese investors keep the Yen bid.  The Bank of Japan is set to hold their Monetary Policy Meeting this evening and although interest rates are expected to remain the same, they will probably be addressing alternative methods of stimulating the economy.  Investors have been optimistic about the central bank’s plans to acquire subordinated loans and bonds from banks in order to increase capital provided for lending. The following program adds to their already sizeable quantitative easing program as well as government’s stimulus packages, which are aimed at jump starting the lagging economy. The bank expects to allocate ¥1 trillion yen or $10.2 billion directly into financial institutions to ease strains on the credit availability. Meanwhile, Prime Minister Taro Aso launched a proposal of new stimulus package that may total ¥20 trillion yen or $200 billion dollars. The newly proposed stimulus package proposes to allocate funds toward building of infrastructure and welfare within the country.

BoJ Monetary Policy Not Working

GBP/USD: Currency in Play for Next 24 Hours

The currency in play for the upcoming 24 hours is GBP/USD.  The U.K. will be releasing the minutes from their March monetary policy meeting and Jobless Claims Change at 9:30GMT or 5:30AM EST. The U.S. will be releasing its figures for CPI which due at 12:30GMT or 8:30AM EST. Thereafter, Federal Reserve will meet for open committee rate decision at 18:15GMT or 2:15PM EST. The GBP/USD is currently trading with the Range Trading Zone, which we determine using Bollinger Bands.   After being suppressed for a prolonged period of time, the pair could break to higher levels upon breaching resistance which sits at 1.4320.  That level represents trendline resistance, the 50-day SMA, and 1st Standard Deviation Bollinger Band.  A breach of which would put the pair into the Buy Zone. The upward momentum will be negated upon the break of support at 1.3920 which is 1st SD Bollinger Band on the downside. The break of support would place the pair back into the sell-zone, possibly establishing another trend to test this year’s low.   

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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.