NEWS / Foreign Exchange

The dollar will take its cues from the Federal Reserve meeting on Wednesday

USD ??“ The dollar will take its cues from the Federal Reserve meeting on Wednesday where the central bank is expected to cut interest rates in response to continuing softness in the US economy. Although a rate cut is widely expected, there is some debate over whether the Fed will cut its benchmark Federal Funds rate by 0.25% or 0.50%. Existing Home sales fell 8% in September to a record low 5.04 million homes sold while new home sales rose 4.8%, a figure attributed to seller incentives and markdowns. September Durable Goods orders fell 1.7%, prompting worries that weakness in the real estate market is spilling over into consumer spending. This sentiment was bolstered by a weaker-than-expected University of Michigan consumer confidence survey which fell to 80.9 (82 est.) from 83.4. In response, the dollar continued its drop to multi decade lows last week. The dollar outlook remains challenging as further US interest rate cuts decreases the attractiveness of US assets, compounding the weakness from a slowing US economy.

EUR ??“ The euro continued its streak, rising to all time highs throughout the week on the back of lackluster US economic reports. Although Euro Zone growth appears to be moderating, the single currency continues to enjoy gains on a weak dollar outlook. The German government pared back growth estimates for 2008 to 2.0% while Euro Zone Manufacturing PMI fell to 51.5. Strong rhetoric over export-crimping euro strength also continues as European politicians look to talk the euro down.

JPY ??“ The week opened with Japanese stocks advancing following China??™s announcement that it would buy a stake in Bear Stearns shoring up confidence in financial institutions hit by U.S. sub-prime crisis, and then did an about face on news that Merrill Lynch reported record quarterly losses. Mizuho led Japanese decliners after announcing it would book a charge from sub-prime loan losses. Japan??™s 10-year bond fell as well as investors began to seek riskier investments once more. Last week also saw the yen rise against the 16 major currencies as appetite for yen carry-trade investments narrowed. Last Wednesday continued a second day of yen gains against the greenback as U.S reported new home sales sank to 10-year lows. Expect continued yen strength.

GBP ??“ It was a light week for UK data and markets took cue from what little bit of news it could find such as Q3 CBI Industry Trends, which displayed strength in the manufacturing sector despite the fact that PMI manufacturing fell to 55.1 from 57. However, the pound declined against the dollar (2.0480 from 2.0511) and Euro (69.57 from 69.55) on trading last Wednesday. Expect the pound to remain range bound, although strong, through this week.

CAD ??“ Last week USD/CAD hit a 33-year low and is easily within reach of its April 1974 low of 0.9576. With U. S. Fed rate cut expectations building, the 2-year government bond spread between Canada and the United States moved to its highest level since late 2004 (~40bps). With few data releases on the horizon the CAD should take its cue from broader USD sentiment and the commodity backdrop.

MXN ??“ On October 26 Banco de Mexico unexpectedly increased its overnight policy interest rate by 25 basis points to 7.5% and said inflation will take longer to combat than policy makers previously estimated. The peso climbed to a three-month high on the news. Inflation has not slowed as quickly as the central bank predicted in May, when it said the rate would fall to 3 percent by the end of 2008. The bank has now revised its outlook to estimate the target won't be reached until the end of 2009 and dropped its ???restrictive bias??? suggesting it doesn't intend to follow with more increases.

CNY ??“ After trading little changed since September USD/CNY resumed falling last week, edging firmly below 7.50. While in Washington last weekend, the deputy governor of the PBoC argued that moving faster on the exchange rate, in the absence of reforms to China??™s economy, would be a negative for global growth. China continues to indicate that it will not be rushed on CNY revaluation issue, although the relatively swift pace that has been adopted so far this year (more than 4% YTD) suggests that policymakers are mindful of external pressures.

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