by Darrell Jobman, Editor-in-Chief TraderPlanet.com
The dollar was unable to make a fresh challenge on 1.3550 against the Euro on Wednesday and weakened sharply in US trading with lows around 1.3670. The dollar was undermined by a string of weak economic data with the housing evidence particularly damaging.
US pending home sales fell sharply by 12.2% in August after a 5.0% increase the previous month, the lowest level since 2001. The data will reinforce concerns that the US housing sector is deteriorating sharply as mortgage difficulties intensify. The latest ADP report registered a weak employment increase of 38,000 in August which will maintain expectations of another weak payroll report this Friday as the ADP report consistent with a total non-farm employment increase of around 60,000.
The Fed’s Beige Book reported that housing slump was deepening in most districts. In contrast, commercial construction was firm while retail sales were generally positive and there were employment gains. Despite the Fed report, there will be increased fears that the economy as a whole will slide towards recession.
The Euro-zone retail sales data was uninspiring with a 0.5% annual increase and will reinforce concerns over a slowdown in the wider Euro-zone economy. The firm German PMI survey for the services sector will help underpin sentiment, but there will be further concerns over the Spanish situation after particularly cautious remarks from Finance Minister Solbes.
The most likely outcome is that the ECB will hold interest rates steady at the Thursday council meeting. If so, the press conference will be important and the bank is likely to take a firm stance to maintain credibility over tackling inflation. A rate increase would trigger strong initial Euro gains.
The US currency was again unable to break resistance levels above the 116.50 level with the yen strengthening back to 115.85 in early Europe on Wednesday. Asian stock markets also reversed initial gains which helped support the Japanese currency.
Japanese finance official Watanabe stated that the government was watching the sub-prime issue closely and that carry-trade unwinding could continue. The remarks reinforced the mood of caution over high-yield instruments as global credit conditions remain very tight. There will be further caution over aggressive yen selling in the short term and an overall reduction in leverage will maintain the risk of forced carry trade liquidation.
The yen was also supported by weak US data and a retreat on Wall Street which pushed the dollar to lows near 115.0 in US trading. Institutional dollar buying is likely to increase below the 114.0 level.
Sterling weakened to lows near 2.0050 against the dollar on Wednesday, but volatility levels remained high and there were strong gains to 2.0220 in New York as the dollar stumbled. The UK currency held broadly steady against the Euro.
Consumer confidence weakened in August while wage inflation weakened to an 11-month low according to the KPMG survey. The UK PMI index for the services sector rose to 57.6 in August from 57.0 the previous month which will maintain short-term confidence in the economy.
There is a strong probability that the Bank of England will leave interest rates at 5.75% on Thursday with the bank still concerned over the inflation outlook. The increase in money market rates has, however, already tightened monetary policy considerably by the equivalent of at least a 0.25% interest rate increase. There is, therefore, a slight possibility that the bank will cut interest rates which would weaken the UK currency sharply.
The Swiss currency resisted a further test of support close to 1.2150 against the dollar on Wednesday and strengthened sharply to highs around 1.2025 in US trading. The franc also regained ground against the Euro as carry trades were out of favour.
Fears over US and Euro-zone growth trends will continue to underpin the franc given that Swiss fundamentals remain robust. The Swiss currency will also tend to gain ground against the Euro if the ECB takes a cautious stance on Thursday.
The Australian dollar fluctuated in a wide 0.8180 – 0.8280 range during Wednesday in volatile conditions.
The Reserve Bank of Australia left interest rates at 6.50% following the latest council meeting. There are still expectations that the bank will increase interest rates within the next few months which will provide background currency support.
The Australian currency dipped as Asian stock markets retreated from their best levels. Further reservations over carry trades will curb Australian dollar buying, but it strengthened against the New Zealand dollar.