NEWS / Foreign Exchange

Euro and Yen Tick Lower ??“ Are Markets Under pricing Geo-Political Risk?

Talking Points

??? New Zealand Dollar: GDP slightly lower than forecast
??? Japanese Yen: Inflation back to negative but Household spending improves
??? Euro: French Data shows upside surprise
??? British Pound: sold early on end of month corporate flows
??? US Dollar: Personal Income/ Spending on tap

Euro and Yen Tick Lower ??“ Are Markets Under pricing Geo-Political Risk?

The euro ticked lower in early European trade today as order flow was dominated by technical rather than fundamental factors with many corporate accounts squaring their positions ahead of the end of the calendar quarter. Eurozone economic data was essentially predictable with business sentiment slightly beating forecasts to the upside while consumer confidence simply matched market expectations. Yesterday??™s better than expected US GDP numbers continued to support the greenback and it appears that traders will need to see further deterioration in US economic results if the EURUSD pair is to break above the considerable resistance at the 1.3400 level.

On the US calendar today Personal Income and Personal Spending releases may be of some interest to currency traders, but the true market mover could prove to be the Chicago PMI release. The prior reading slipped below the 50 boom/bust level for the second month in a row. If today??™s data once again prints below 50 it would suggest that US manufacturing is now firmly in the grip of a contraction and further job losses in that sector are likely to follow. It??™s too early to tell if manufacturing will tip the whole US economy into a recession in the next quarter or two but the recent volatility in the price of oil is sure to cause US producers more near term pain as their costs ratchet higher at the same time as business demand slows.

We have been rather astounded at the near universal complacency of financial markets this week given the geo-political tensions in the Persian Gulf. Several sources on the Internet have quoted former Russian military intelligence officials as stating that US was in the midst of preparing a strike on Iran as soon as next Friday and that the Iranian capture of UK soldiers may have been an attempt by Teheran to acquire some ???human shields??? for the purposes of negotiation. While this type of speculation can and usually is wildly inaccurate, the fact of the matter is that as long as the conflict between UK and Iran remains unresolved, the price of crude will reflect a steep risk premium. From an economic perspective such a dynamic remains highly damaging to the US economy as it continues to divert discretionary income to the gas pump. With the Swiss franc once again approaching multi-year highs against the euro, it will be interesting to see if the markets finally respond to the current geo-political dangers or whether they will maintain their disinterest betting on a diplomatic resolution to the stand off.

Finally in Japan today, the torrent of eco data revealed one bright spot. Overall household spending improved markedly rising 1.3% vs. 0.6% forecast. This was the single best reading in 16 months and the first time that this release showed two consecutive months of positive gains since the summer of 2005. For yen bulls this small piece of good news may the first indication that Japanese consumers are finally ready to increase spending. The Japanese economic recovery has been highly unbalanced, with the vast majority of the recent growth in the GDP benefiting corporations rather than consumers. If Household spending continues to trend positively for the next few months, BOJ will have considerably more leeway in tightening monetary policy and that in turn should prove bullish to the yen.