Yesterday, the EUR/USD currency pair continued to drift lower from the reaction highs in the 1.4725 area on Tuesday. A new attempt to regain the 1.47 barrier was rejected early yesterday morning and EUR/USD gradually slipped towards to low 1.46-area during the morning session in Europe, just to develop a sideways pattern further out in US trading. There was no clear story to explain the price action. We still suspect selling pressure from EUR/JPY to spill-over into EUR/USD trading as well. The eco data (European and US inflation data and some regional manufacturing surveys in the US) only had a limited impact on trading. ECB’s Stark yesterday also echoed Mr. Trichet’s words of last week that abrupt currency movements are not welcome.
Today, the calendar is rather thin with only the US TIC data and industrial production scheduled for release. The August TIC data were highly distorted and showed a spectacular negative outcome/outflow of USD 69.3 bln. This month a more ‘normal’ USD 71.5 of inflow is expected. We don’t like this indicator very much as it is essentially backward looking and as these flows should already have been captured by markets. However, another big surprise still could have some temporary impact on the FX markets. This there is also a G20 meeting this weekend, but we don’t expect it to bring much news for the currency market.
Longer term, we think that more US bad news might be in store and that the dollar is not out of the woods yet. To herald a trend reversal we also wait for a clear technical sign and this isn’t available yet. So the long standing up-trend in EUR/USD is not questioned. In this respect, it is also interesting to see that almost all US government bond yields drop below the comparable European yield levels. This is already the case for 2 and 5 year yields and for the 10 year the US advantage is only a few basis points anymore.
In a short-term, day-to-day perspective, the EUR/USD pair probably entered some consolidation pattern with the 1.4750 area (topside) and the 1.4525 area (downside) the most obvious barriers. We expect these barriers to hold in the short term. The negative investor sentiment as seen in Asia this morning and renewed tension on the money markets might trigger more unwinding of EUR/JPY carry trades, pushing EUR/USD gradually somewhat lower in the mentioned trading range. A break below 1.4525 would be an indication that some more correction is in store.
After a brief attempt to rebound on Wednesday, both USD/JPY and EUR/JPY resumed their downtrend. Ongoing uncertainty on the impact from the credit crisis on financial markets and on the global economy, rising tensions in the money market and another day in the red for most major stock market indices were a good reason for the yen to capitalize on its safe haven characteristics. USD/JPY this morning revisits the 110-mark and EUR/JPY is back in the 161 area (two days ago it rebounded to above 164).
Japanese and Asian stock markets this morning again face some harsh headwinds and this clearly is yen supportive.
In the Minutes of the October meeting, the BOJ hit a cautious tone as the uncertainty on the impact from the credit crisis was seen as high. So, an additional rate increase isn’t around the corner.
In an interview with CNBC, Former Vice Minister of Finance Sakakibara described a correction of USD/JPY as ‘just a normalization’. Of course, his view is not the official view of the Japanese policy makers anymore, but suggests that if the move develops in an orderly fashion, Japan might by prepared to accept more yen strength.
We hold on to our yen positive bias and continue to buy the yen on dips as the uncertainty and continued fall-out from the sub-prime sector will come back to haunt the markets.
After already being hit hard earlier this week by the rate cut expectations, following the publication the BOE inflation report, the sterling yesterday had to digest a poor October retail sales report. This was not the support the UK currency is waiting for and EUR/GBP set a new reaction high in the 0.7165 area.
From a fundamental point of view, we think that already a lot of sterling negative news is priced in (both in the money market and in the currency market). On top of that, our economic scenario also envisages the possibility of rate cuts in the Eurozone area already in the first half of 2008. So, in this respect, the interest rate differential between the UK and the Euro-zone will continue to stay at decent levels for a while and at some point this should give the sterling some support.
However, in a day to day perspective, the sterling obviously is a failing knife and we don’t try to catch it. From a technical point of view, the EUR/GBP pair is extremely overbought, but we remain sidelined for now.
