by Darrell Jobman, Editor-in-Chief TraderPlanet.com
EUR/US$
The Euro weakened back to lows near 1.3380 in early Europe on Friday before securing a firm recovery to highs above 1.35. The dollar proved resilient and settled close to 1.3475 as low risk tolerances still encouraged defensive US currency buying.
The Federal Reserve announced a 0.5% cut in the discount rate to 5.75% to help improve market liquidity. In a statement accompanying the decision, the Fed stated that downside risks to the economy had increased appreciably. The central bank, however, left the fed funds rate unchanged at 5.25%. The fact that this rate was left on hold will limit the near-term currency impact, but there will be further intense speculation over a cut in the fed funds rate at the regular September meeting.
The University of Michigan consumer confidence index fell to 83.3 in August from 90.4 previously, the lowest monthly reading for 12 months, and this will reinforce market concerns over the outlook for consumer spending. There is little in the way of economic data early next week, but markets will be on alert for anecdotal evidence over market conditions. Unease over the economic outlook will tend to undermine dollar confidence while the Fed action will also tend to lessen safe-haven inflows as equity markets attempt to stabilise.
Next week, markets will monitor closely any comments on interest rates from the ECB. The German economic data will also be important with the ZEW sentiment index due for release on Tuesday.
Yen
The US currency failed to hold the gains seen in US trade on Thursday and weakened back to lows below 112.0 on Friday as defensive yen demand continued.
Trading conditions remained extremely volatile with continuing evidence of liquidity difficulties and rumours of Bank of Japan price checking again pushed the yen weaker.
Top Japanese Finance official Shinohara stated that the ministry was watching markets closely and tougher rhetoric is normally used if the authorities are considering intervention. There will be greater pressure for action if the yen strengthens through the 110.0 level and volatility levels will remain very high in the short term.
Fed action to cut the discount rate helped stabilise carry trades and pushed the dollar back above the 114.0 level in US trading, especially with markets now expecting the Bank of Japan to leave rates on hold next week.
Sterling
Sterling found support below 1.97 against the dollar on Friday and strengthened back to highs above 1.99 as volatility remained very high. The UK currency dipped beyond 0.68 against the Euro and weakened back to 1.98 against the dollar later in US trading.
There will be a further downgrading of UK interest rate expectations in the short term. Markets will speculate over a possible cut in Bank of England interest rates, especially after the Fed move to cut the discount rate, and this will curb Sterling support.
Confidence in carry trades will also remain much lower following the extreme turbulence this week and this will tend to limit Sterling support, although volatility levels will remain very high.
The housing data will be watched very closely next week and evidence of falling prices would undermine the currency while firm indicators would help underpin confidence.
Swiss franc
The Swiss currency strengthened sharply on Friday with gains to near 1.20 against the US dollar while the franc also strengthened to highs beyond the 1.62 level against the Euro before settling close to 1.6280.
There was a significant increase in defensive franc demand during Friday and this was only partially reversed after the Federal Reserve discount rate cut as risk aversion levels remained high.
Emerging-market European currencies have come under heavy selling pressure over the past 36 hours and this will increase the risk of a forced repayment of franc-denominated loans. Heavy repayments would tend to reinforce upward pressure on the Swiss currency.
Australian dollar
The Australian dollar was unable to hold the gains seen in US trading on Thursday and weakened to fresh lows around 0.77 in Asia on Friday as carry trade liquidation continued with funds also attempting to trigger a liquidation of carry trade positions.
The Reserve Bank intervened in the market to help stabilise the currency markets as liquidity deteriorated. The downward pressure on the Australian dollar was amplified by a sharp drop in commodity prices and market volatility will remain very high in the short term. The Federal Reserve discount rate cut helped support the Australian dollar with a recovery back to 0.7950 in US trading.
