Despite the 0.8% increase in January housing starts to 1.012 million, building permits, the more appropriate leading indicator, fell 3.0% to 1.048 million, while December starts were revised to -14.8% from -14.2%.
Both headline and core CPI rose more than expected in January, up 0.4% and 0.3%, pushing the year-over-year rate to 4.3% and 2.5% respectively. But this is unlikely to prevent the Fed from projecting lower core PCE for 2008 and 2009. These high inflation figures will prolong selling in equities and further boost the yen as they further complicate the Fed's easing campaign.
The resulting impact of the data is leaving markets jittery, which is a broad positive for the yen. We expect prolonged robustness in the currency going into the Federal Reserve Board’s projections.
Fed’s growth projections overshadow CPI
The 2 pm EST release of the January Federal Open Market Committee meeting will be accompanied by the Fed’s latest forecasts, known as central tendency projections, which will give the latest forecasts on gross domestic product (GDP) growth, unemployment rate and inflation as measured by core PCE. Since the forecasts are not quarterly, they will not clearly tell us whether the Fed is forecasting two consecutive quarterly growth contractions, the definition of recession, but markets could come under severe pressure once the Fed affirms further slowdown in its forecasts, as Chairman Bernanke alluded to in last week’s Congressional testimony. Recall that in October 2007 the Fed downgraded its 2008 GDP forecast to 1.8% to 2.5% from July’s forecast of 2.5% to 2.75%, and this time may actually decrease the lower end of the range to 1.5% from 1.8%. It will also likely raise the upper end of its 2008 unemployment rate forecast to 5.0% from 4.9% in October. The Fed may polish its tone by stressing a rebound in H2, but stocks and the Japanese yen are expected to move in opposite directions (stocks down, yen up) after the projections.
Sterling eyes $1.9370
The already unstable sterling sustained fresh declines after the Bank of England (BoE) minutes of this month’s interest rate decision showed the MPC voted eight to one to cut interest rates by 25 basis points (bp) to 6.25%, with David Blanchflower the lone dissenter voting for a 50 bp rate cut. Thursday’s release of UK January retail sales are seen up 0.3% from -0.4% (to be more covered at our daily Video Commentary in late afternoon).
Cable is completing a classic head-and-shoulder formation on the 4-hour chart, targeting the neckline support at 1.9380s. Resistance stands at 1.9470, followed by 1.95 and 1.9520.
Further yen gains expected
Yen battles between the negatives of a weakening Japanese economy and the positives of a reduced risk appetite as it hovers around the 107.50s vs. the U.S. dollar. The Nikkei reported Japan’s Cabinet Office will lower its assessment of the economy for the first time in 15 months in February due to weak exports and production. This will likely offset falling yen crosses, but weak fundamentals in the individual currencies (EUR, GBP, USD) should provide JPY support.
Despite the 0.8% increase in January housing starts to 1.012 million, building permits (the more appropriate leading indicator) fell -3.0% to 1.048 million, while December starts were revised to -14.8% from -14.2%. With levels remaining at their 17-year lows, we expect prolonged robustness in the yen into the Federal Reserve Board’s projections.
Upside seen capped at 108.20, followed by 108.60. Support is seen challenged at 107.20 with stability standing at 106.80.
Euro eyes $1.46
Euro drops across the board on further losses in European banks and signaling from the European Central Bank (ECB) that it is moving towards a neutral policy stance. Shares of French bank Credit Agricole fell after the Financial Times suggested prolonged writedowns from the bank. Unnamed sources at the ECB are rumored to indicate that the bank’s policy shift towards a neutral stance may not necessarily imply a rate cut but possibly hold rates unchanged into the rest of the year. Another reason for markets to not expect a rate cut, but to drag on the euro is the 5.2% wage increase settlement reached between IG Metall's union and employers. Thus, any signs that the ECB will not ease interest rates at a time when losses are growing on the banking front and downside economic risks cropping up to the downside, may drag the euro lower, especially against the Japanese yen.
Euro’s rebound past 1.4660 near the 1.47 figure should be scrutinized on whether it will close above 1.47, in which case it could suggest prolonged strength next week. Failure to close above 1.47 raises the odds of a subsequent pullback to as low as 1.4580.
EUR/USD faces further losses at 1.4620, backed by 1.4570. Upside may be extended in the event of weak U.S. data, but seen short-lived at 1.7.
EUR/JPY is seen extending losses towards 158 and 157.75 in the event of negativity from the housing starts/building permits release and the 2 pm release of the Federal Reserve projections
Ashraf Laidi
Chief FX Strategist
CMC Markets US
a.laidi@cmcmarkets.com
