The most resounding sign that the latest measures by the Federal Reserve Bank are no panacea for the current credit crisis was the unfolding currency developments in Asia and Europe. Despite the 4% rallies in Wall Street and ensuing gains in Asia, the Japanese currency had regained all of its post-Fed rate cut losses against the major currencies, while the euro was doing the same before retreating hours ago. CNBC’s story that both Goldman and Lehman had gone to the Fed’s discount window last night under the central banks’ new rules of providing funding to investment banks also contributed to the yen’s nervousness-related gains. The dollar had spiked to a four-day high of 100.40 yen in Asian trade before tumbling back to 97.66 yen by mid morning European trade. And despite the broad gains in Wall Street and Asian equity indexes, European indexes are all in the red, suggesting that today’s U.S. trading session may prove similar to last Wednesday’s, which had totally erased the 4% gains in Tuesday March 11. The theme of short-lived gains in the dollar and equities strongly suggests that financial markets remain caught up in the storm of dried liquidity and falling confidence amid banks. Trading in shares of HBOS Plc, Britain’s biggest mortgage lender, was halted today on fears of funding problems.
Yen gets last word
The yen’s sharp rebound in Asian trade despite rallying equity markets reflects the lack of confidence in short-term funding among banks and supports our expectations for prolonged strengthening in the currency. News that both Goldman and Lehman went to the Fed’s discount window last night, under the central banks’ new rules of providing funding to investment banks, also contributed to the yen’s nervousness-related gains. We stick with our expectations that the dollar/yen rate will remain under the 100 yen level and any rebounds above the figure will be short-lived facing key resistance at 101.50. Our medium-term outlook places the pair at 95 before the April FOMC meeting and at 90 by August. We expect the year’s low of 87 to be attained in Q3. The U.S. dollar is expected to prevail and trigger further USD selling. A 75 basis point cut may not trigger the same degree of gains in equities and could drag the pair to as low as 97 and 96.30.
For the short-term, USD/JPY to face interim resistance at 99.20, followed by 99.70. In the event that Wall Street gives up all of Tuesday’s gains, we could see a retreat back towards 98.30 and 97.80.
Euro’s rebound hesitant but convincing
Rumors of an emergency ECB meeting were unsubstantiated, but the central bank did inject liquidity into the system to address volatile conditions reflected in credit and currency markets. Euro’s rebound was accompanied with $25 bounce in gold to $997 per ounce. Although renewed losses in U.S. equities are expected to prop the euro back above the $1.57 figure, the pair is unlikely to benefit from any recurring event risk such as emerging systemic risk. Support to stand at 1.5660, and is backed by 1.5620. Upside faces trend line resistance at 1.5780 with key pressure seen at 1.5825.
More sterling damage
Sterling is sent down below $2.00 amid heightened expectations that the Bank of England will cut rates next month by at least 25 bps. The release of the Bank of England minutes showed the MPC voted seven to two to hold rates unchanged at 5.25% last month, with Gieve and Blanchflower calling for a 25 bp cut. While we expect U.S. interest rates to reach 1.00% by end of June, we expect UK rates to be cut by 125 bps to reach 4.00% by year end. Separately, UK Feb unemployment came in at 2.5% as expected, while unemployment fell by 2,800 from a revised decline of 10,800 vs. expectations of a 5.0 decline.
Cable takes another sharp downturn, facing robust support at $1.9950. Key foundation stands at 1.9890. Upside remains limited at 2.0050. Any further moves higher are seen sold ahead of an increasingly untenable fundamental environment for UK banks and the interest rate outlook.
Ashraf Laidi
Chief FX Strategist
CMC Markets US
a.laidi@cmcmarkets.com
