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US Dollar: Living on Borrowed Time

Last updated 3/20/2009 5:27 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

• U.S. DOLLAR: LIVING ON BORROWED TIME
• EUR/USD: RETREATS BUT STILL ABOVE 1.35
• GBP/USD: BIG WEEK AHEAD
• USD/CAD: UNFAZED BY STRONG RETAIL SALES
• AUD/USD: GOLD PRICES AT $952.2, OIL AT $52.22
• NZD/USD: GDP DUE FOR RELEASE NEXT WEEK
• USD/JPY: FADED HOPES OF 100

EXPECTATIONS FOR UPCOMING FED MEETINGS

U.S. DOLLAR: LIVING ON BORROWED TIME

A new trend has emerged in the U.S. dollar this week courtesy of the Federal Reserve’s decision to start buying U.S. Treasuries.  However judging from the price action across the financial markets, investors are not entirely convinced that the central bank’s actions will be enough to stabilize the U.S. economy.  Stocks and gold prices have retreated after rallying on Wednesday while bond yields recovered.  The U.S. dollar has also bounced but remains very weak.  Given that the most significant consequences of the Fed’s action are higher bond prices (lower bond yields) and a weaker U.S. dollar, traders should not be distracted by the sell-off in U.S. equities.  With no economic data or major announcements from the U.S. on Friday, profit taking has hit the currency market.  

Performance of the U.S. Dolla r

Since the FOMC meeting, the U.S. dollar has sold off dramatically, but it interesting to look back at which currencies have benefitted the most at the expense of the U.S. dollar.  The following chart shows that the New Zealand dollar has been the best performing currency while the Canadian dollar has seen the weakest rally.  Although Canada has not adopted Quantitative Easing, they have hinted at it.  The relative underperformance of the British pound and the Japanese Yen compared to the other currencies is expected since both central banks have already been practicing Quantitative Easing.   As we said in Thursday’s Daily Currency focus, the currencies that will perform best against the U.S. dollar over the next few weeks are the ones whose central banks are reluctant to follow in the footsteps of the Fed.   

U.S. Dollar is Living on Borrowed Tim e

Part of the reason why we continue to be bearish the U.S. dollar and expect the EUR/USD to hit 1.40 is because the greenback is living on borrowed time.  With national debt currently exceeding $11 trillion, the U.S. is the world’s largest net borrower and China happens to be its biggest creditor.  Over the past few months, China has been growing increasingly uncomfortable with being so heavily invested into the U.S. economy.  Even though the Treasury’s efforts could stabilize some of the financial markets, the expected weakness of the dollar will erode profits or exacerbate losses.  As a savvy investor, China is fully aware of the dollar’s impact on their portfolios.  Last week, Premier Wen Jinbao clearly stated that China has “lent a huge amount of money to the U.S. Of course we are concerned about the safety of our assets," "To be honest, I am definitely a little worried."  The U.S.’ reliance on foreign capital makes the dollar’s safe haven status particularly vulnerable and this is exacerbated by the Federal Reserve’s efforts that will inevitably lead to a weaker dollar.  

The Week Ahea d

In terms of U.S. economic data, there are not a lot of significantly market moving events on the calendar.  The U.S. is expected to release reports on the housing market, durable goods, the final figures for fourth quarter GDP, personal income and personal spending.  However there are a number of scheduled speeches by Federal Reserve officials and Treasury Secretary Tim Geithner.  Although Geithner’s testimony to the House Financial Panel is focused on AIG, his comments are worth following.  Bernanke and other Fed officials could also shed more light on the central bank’s latest announcement.

** FX360.com now has CHARTS!   Also check out the new filtering functionality on the FX360.com calendar .

Bernanke's Speech Today

EUR/USD: RETREATS BUT STILL ABOVE 1.35

After rallying for 8 straight trading days to a high of 1.3739, the EUR/USD has retreated towards 1.35.  Euro bulls may have wished that the currency pair pressed higher, but such a long string gains with not even one day of retracement was very rare.  The sell-off in the EUR/USD still leaves the uptrend in the currency pair intact.  Eurozone industrial production was mixed with the monthly figure falling less than expected but the annualized contraction in manufacturing activity accelerated.  There has been a lot of speculation about whether the European Central Bank will also adopt Quantitative Easing.  For the ECB, it is particularly difficult because there is no Euro bond to buy.  Every other country that has embarked on QE has bought their own sovereign debt, the ECB on the other hand is responsible for many countries.  In the meantime, European officials continue to talk of lower interest rates.  Axel Weber, an ECB Council Member and the President of Germany’s Bundesbank explained that rates are most certainly headed lower. Shifting to fiscal stimulus, EU leaders agreed to add an existing credit line for struggling nations that are not using the euro as their primary currency. It has been stated many times that the health of Eastern European nations pose significant threats to the Euro-zone. After a bail-out plan failed to materialize earlier this month, the stock markets in these regions plummeted. Despite the inherent connection, European leaders remain opposed to spending any more on government stimulus but as conditions are worsening, the EZ may eventually have to loosen the grip on their wallets.  The German IFO report is due for release in addition to manufacturing and service sector PMI. 

GBP/USD: BIG WEEK AHEAD

Like many of the other currency pairs, the British pound retreated after 2 days of sharp gains.  Throughout this past week, the recovery in the pound has been stifled by weaker economic data including a sharp increase in the unemployment rate.  The market’s waning appetite for the currency is best reflected in EUR/GBP, which has appreciated significantly this month.  Meanwhile more concerns over Britain’s housing market have erupted today. The Financial Services Authority is expressing their worries over the very real potential that house prices could fall by 30%. According to the agency, this puts many homeowners into negative equity, making it nearly impossible for many them to sell their homes until house prices stage a recovery, an event that will most likely not occur for some time.  With some important data on the way for next week, the true underlying trend in the currency may be revealed. Among the list of next week’s reports includes CPI, Retail Sales, and GDP. Judging by the recent spike in unemployment, the risk to retail sales is to the downside. Consumer prices have risen globally due to higher energy prices and we believe the U.K. will be faced with the same upside pressures.  The final figures for Q4 GDP are also due for release and for the time being, no revisions are expected.

USD/CAD: UNFAZED BY STRONG RETAIL SALES

The Australian, New Zealand, and Canadian Dollars remained virtually unchanged against the greenback after experiencing an extensive rally this week. The Canadian Retail Sales figures climbed faster than expected in January, rising by the largest margin since July 2006. Retail Sales rose 1.9% month over month indicating a bright spot of an economy that is in its first recession since 1992.  It is important however to have context, because the higher spending numbers come after December retail sales fell by the most in 17 years. Cars and gasoline purchases led the rise, but Canadians also spent more on food, beverages, pharmacy purchases and clothing. I would not read too much into this report because they represent nothing more than a bounce off very low levels. Investors need to realize that the Canadian economy is extremely weak and a recovery will not happen until the U.S. economy turns around first.  On Monday, leading indicators are due for release, the only piece of noteworthy Canadian data on the calendar.   In Australia, Financial Treasurer Wayne Swan downgraded projections for the economy, stating the growth will be marginal at 0.50% this year and unemployment could rise above 9% by 2010.  Meanwhile, New Zealand’s Credit Card Spending contracted for fourth consecutive time by 1.9%.  Fourth quarter GDP is due for release from New Zealand next week.

USD/JPY: FADED HOPES OF 100

The Japanese Yen traded lower with Japanese traders off for Happy Vernal Equinox Day (first day of spring).  The hopes of surging above 100.00, all seem to fade away as the Fed embarked on a spending spree. Throughout the last few months, a stronger Yen along with slumping global demand manifested into deteriorating conditions within the economy.  Halt in production through every sector of the economy continues to lead to higher unemployment rate. To offset ever deteriorating conditions, the Bank of Japan began purchasing government bonds to stimulate the credit market. The BOJ plans to acquire ¥1.8 trillion yen or $18.8 billion of bonds as early as next week. However, Central Bank Governor Massaki Shirakawa warned of lack of room remaining to raise purchases. Meanwhile, Prime Minister Taro Aso plans to unleash a third stimulus package in an amount of ¥20 trillion or $200 billion. There are a number of Japanese economic indicators due for release next week including the BOJ’s Minutes which will be released on Sunday night, the Merchandise Trade due on Tuesday, and Retail Trade and CPI figures on Thursday.

USD/CAD: Currency in Play for Next 24 Hours

The currency in play for the Monday is USD/CAD. Canada will release Leading Indicators around 12:30GMT or 8:30AM EST while the U.S. will release figures for Existing Home Sales at 14:00GMT or 10:00AM EST.

After depreciating for over a week the pair currently trades within the Sell Zone of the Bollinger Bands.  The 61.8% retracement of this year’s high and low presents to be support which is around 1.2260. The pair will negate the pattern upon breaching resistance. Current resistance originates at the 1st Standard Deviation of the Bollinger Bands that coincides with 50-day SMA at 1.2510.

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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.