U.S. Dollar: FOMC And Beyond

Last Updated 9/22/2009 5:30:37 PM EST (GMT +5)

THE STORIES IN THE CURRENCY MARKET

• U.S. DOLLAR: FOMC AND BEYOND
• EUR/USD: INCHING CLOSER TO 1.50
• GBP/USD: FATE HINGES UPON BOE MINUTES
• NZD/USD: SURGES AS CURRENT ACCOUNT TURNS INTO SURPLUS
• USD/CAD: RETAIL SALES CONTRACT
• AUD/USD: GOLD AND OIL PRICES HIGHER
• USD/JPY: ERASES MONDAY’S GAINS

U.S. DOLLAR: FOMC AND BEYOND

Foreign exchange traders have returned to selling dollars ahead of Wednesday’s Federal Reserve monetary policy announcement. The lack of desire to own dollars has driven the greenback to a fresh one year low against the euro, 13 month low against the New Zealand dollar and 14th month low against the Swiss Franc.  Although the weakness of the dollar can be partially attributed to the rally in equities and the improvement in risk appetite, the pressure on USD/JPY suggests that it is more of a story about the dollar than risk appetite.  Economic data was disappointing but more importantly, U.S. bond yields fell across the board, giving investors less reasons to hold dollars and more reasons to use it as a funding currency.  Yet whether or not the dollar remains weak will be largely determined by the outcome of the Fed meeting.

Game Plan for FOMC

In our FOMC preview, we talked about the 3 Questions that the market wants the Federal Reserve to answer tomorrow.  Given the improvement in the U.S. economy since the last monetary policy meeting and the stabilization of the equity markets, we believe that Team Bernanke will upgrade their assessment of the economy, taper off their mortgage backed securities asset purchase program and remind the markets that they are working on an exit strategy. At the same time, the Fed is not in a rush to raise interest rates and therefore the fed funds rate will remain “exceptionally low” for “an extended period of time.”  Since most of the expected changes are similar to what the Fed did in August, there is a good chance that the dollar could react in the same way as it did last month to the FOMC announcement. At the time, the Fed was also more upbeat and tapered off their Treasury Purchase program.  The dollar surged against both the euro and Japanese Yen, but quickly recovered its gains as risk appetite swept over the market, lifting equities and currencies in the process. This is similar to the dollar’s reaction following reports on non-farm payrolls.  However, taking a look at how the EUR/USD and USD/JPY traded after all of the FOMC announcements made this year, we can report no consistency other than the fact there is generally a tremendous amount of volatility.  On average, the range of both currency pairs exceeded 100 pips post release.  Sometimes the knee jerk reaction lasts for the rest of the day and other times it was quickly erased. So for FOMC, the best game plan is to avoid trading it unless you have a very strong conviction of what the Federal Reserve will do because the market’s reaction tends to be very erratic.  We encourage you to read our FOMC Preview for more details on what to expect from the Federal Reserve.

Initial Comments on G20 from Geithner and IMF’s Strauss-Kahn

The G20 meeting begins on Thursday September 24th and the official statement will be released on Friday September 25th.  However the comments are already pouring in from various officials on what will be the G20’s agenda.  U.S. Treasury Secretary Geithner said this morning that “we are at the very beginnings of a recovery” and the G20 needs to “lay the seeds for a more balanced, more sustainable recovery” and “build on the progress achieved so far.” Unfortunately IMF Managing Director Strauss-Kahn wasn’t as optimistic.  He feels that the global recovery is sluggish and toxic assets are still clogging bank balance sheets.   As a result, he believes that it is way too early to discuss exit strategies.  Strauss-Kahn also agrees with China’s push to give more say to emerging nations.  Exit strategies and currencies are not expected to be discussed at the upcoming meeting.  Instead, the focus will be on executive compensation and financial regulation.  More details could be revealed on the U.S.’ “Framework for Sustainable and Balanced Growth” but as the EU Ambassador to the United States said in an interview, “G20s don’t make the detailed decisions…But they can create the conditions for reform.”  

U.S. Data - A Sign of Trouble?

According to the weekly Redbook and ICSC/Goldman chain store sales reports, consumer spending has fallen sharply in the past week.  Redbook reported a 2.6 percent drop in sales while ICSC reported a 2 percent drop.  Last month, consumer spending was very strong, but now that after school sales are over and the cash for clunkers program has come to an end, spending could take a hit.  How consumers hold up over the next 3 months will be a big litmus test for the U.S. economy as well as an indicator of how the holiday shopping season could fare.  The Richmond Fed manufacturing index and house prices also fell short of expectations.  Aside from the FOMC meeting tomorrow, the only data due for release over the next 24 hours will be the ABC consumer confidence index and mortgage applications.  

EUR/USD: INCHING CLOSER TO 1.50

Despite the lack of economic data, the euro managed to hit a new 12 month high against the U.S. dollar.  The EUR/USD currency pair is inching closer to the psychologically important 1.50 level and based upon the charts, once the currency pair clears the September 2008 high of 1.4867, there is no major resistance until that level.  One of the primary reasons why the EUR/USD continues to rise is because of the European Central Bank’s nonchalance towards the currency.  This morning, ECB member Weber even went so far as to say that the behavior of the euro is not “out of line” with euro data.  The the ECB is in no rush to raise interest rates because the strength of the euro tightens the economy.  According to Weber, interest rates are appropriate and it is too early to exit from the extremely loose policy.  This same sentiment was echoed by ECB member Sramko who was actually a bit more dovish.  He believes that the sustainability of euro area growth remains in question and because of that, the ECB and governments will act if more stimulus is needed.  On Wednesday we finally get some economic reports from the Eurozone with service and manufacturing sector PMI reports due for release.  Meanwhile the Swiss franc traded to a 14 month high against the U.S. dollar.  USD/CHF has now dipped below intervention levels and so far there has been no sign of the Swiss National Bank.  Perhaps the SNB is watching EUR/CHF and not USD/CHF.  Switzerland’s trade surplus fell from 2.21B to 1.79B in the month of August with exports rising 2 percent and imports falling 2.5 percent.

GBP/USD: FATE HINGES UPON BOE MINUTES

Like the Eurozone, there was no economic data released from U.K. overnight which left the British pound at the whim of the U.S. dollar.  Since the greenback fell across the board, the GBP responded by rising nearly 1 percent.  However judging from the price action of EUR/GBP, which ended the day basically unchanged, the market’s attitude towards the pound has not changed.  The sustainability of the currency’s gain against the dollar will depend less upon the outcome of the FOMC announcement and more upon the tone of the minutes from the most recent Bank of England meeting.  Earlier this month, the BoE left their asset purchase program unchanged, triggering widespread speculation that the central bank believes that the Quantitative Easing Program is finally sufficient.  However last week, BoE officials talked about the possibility of lowering the deposit rate, which suggests they are still dovish.  The minutes should provide more information about whether the BoE still plans on increasing their asset purchase program and if they do, it would be very bearish for the British pound.  Also watch for how the different members voted and they what favor in terms of monetary stimulus in the month to come.  

NZD/USD: SURGES AS CURRENT ACCOUNT TURNS INTO SURPLUS

The Australian, New Zealand, and Canadian Dollars rose across the board on U.S. dollar weakness, stronger risk appetite and higher commodity prices.  A big surprise in last night’s current account figures from New Zealand propelled the kiwi and Aussie sharply higher.  The market originally expected New Zealand’s current account deficit to grow but instead the deficit turned into a surplus thanks to a sharp surge in milk prices which boosted dairy exports in the second quarter.  It appears that so far, the strength of the NZD/USD has not had a materially detrimental effect on exports.  This evening, Q2 GDP is due for release and following the stronger current account, trade and retail sales figures, there is a good chance that the pace of contraction in New Zealand slowed materially between April and June.  There was no data from Australia but we had a major disappointment from Canada.  Retail sales fell 0.6 percent, the first drop since April due to a sharp decline in gas station receipts. Cuts were also made on extraneous spending for furniture, electronics, food and beverage. Core consumer spending which excludes autos dropped 0.8 percent, the sharpest decline since December 2008. Although consumer spending contracted materially and the Canadian dollar fell on the heels of the report, it is important not to get too caught up on July data. Canada reported job growth in the month of August and gas prices increased materially which suggests that we should see a healthy rebound in next month's report.

USD/JPY: ERASES MONDAY’S GAINS

The Japanese Yen strengthened across the board against other major currencies. Despite a lack of any economic news due to holidays, USD/JPY managed to erase all of Monday’s gains and could be headed lower. Japanese traders do not return until Thursday in Japan, which is Wednesday evening in the U.S. At that time, the trade report could spur some interest in the pair as it will shed light on whether the strength of the yen has crimped exports. Until then we can expect the pair to be highly affected by inflows of risk as well as U.S. economic data. Meanwhile the Asian Development Bank confirmed that Chinese economy will grow faster than previously estimated. As Japan’s largest trading partner, what is good for China is good for Japan.

About The Author

Lien has extensive knowledge within the interbank market, particularly in trading spot FX and options. She has written for numerous publications, is frequently quoted on financial media outlets, and is the author of several books, including Millionaire Traders. Read more >>