IB FX View

Risk appetite return sees dollar on its knees

Wednesday July 15, 2009

Pro-growth currencies are off to the races led by a 1.6% gain for the Australian dollar and a 1.3% gain for the Canadian dollar. More and more markets reflect increasingly optimistic signs that the recovery is back on its legs after stellar earnings and signs of increasing consumer demand have turned back a wave of earlier worries.


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The euro is in rally mode today partly aided by a decline in demand for the safety of dollar and yen denominated assets. The rise in the euro versus the dollar to $1.41 ahead of U.S. consumer prices came after the Eurozone announced that its annual CPI fell by 0.1% in the year to June making it the first drop on record. The reading further reduces the chances of an ECB adjustment to interest rates. In the moments ahead of the U.S. reading dealers have placed bets across the board that the dollar’s recent decline will continue in the face of earlier earnings and retail sales data suggesting that recovery is underway. In the event the U.S. data revealed a slightly firmer monthly gain of 0.7% for consumer prices.

The Eurozone inflation data was not out of line with expectations and largely accounted for by a 19% drop in the cost of transport fuel, a near-40% decline in heating oil and a 3% drop in dairy produce costs. The euro gained sharply to 131.86 (+1.7) and added almost a penny against the pound to 85.72 pence.

Investors are also primed for good news later in the morning session in the form of U.S. industrial production, which is projected to show a lessening pace of contraction in line with other data. After yesterday’s stronger retail sales data and positive earnings shocks from Intel and Goldman Sachs, investors are beginning to sense that demand in the real world is alive and kicking in several quarters. The revenue and earnings boost at both companies exceeded the rosiest forecasts by analysts and has served to lift sentiment amongst equity investors while turning its nose up in the face of the bond market where yields have quickly risen so far this week.

Braver investors have been buying riskier assets and that theme was once again borne out again as energy and precious metals prices are higher in turn giving a direct boost to both Aussie and Canadian dollars.

Equity market volatility slumped to a 10-month low yesterday with the Vix index slipping to 25 for the first time since September ahead of the fatality of Lehman Brothers. Lower implied options volatility is a further encouraging sign to investors looking overseas at riskier nations and their assets where better yields are to be found.

Overnight comments from the Prime Minister of New Zealand supported those made earlier in the week from central bank chief, Alan Bollard, who acknowledged that the recovery might finally be taking hold down under. Until this point in time he’s been more scathing of early-bird investors hoping to take advantage of recovery hopes in buying the domestic currency. Their actions had the potential to snuff out recovery by closing the door on exporters. Mr. Bollard has frequently warned speculators of the ramifications of their actions and has warned that the RBNZ might be cornered into intervening to ditch its currency.

The recent equity volatility plunge has spilled over into currency markets thanks to a soothing in the demand for yen and as the dollar fails against the euro. The yen took a further kicking while it was on the canvas earlier when the Bank of Japan predicted a larger economic contraction through fiscal 2010 (next March) at 3.4% and so larger than the April forecast of -3.4%. Technically speaking bad news for the economy might have spurred yen demand but today there is so much better news all round that the yen continues to decline against all major trading partners.

The Chinese stimulus plan rolled into action last November has clearly helped global economic sentiment if not helped roll out at least some growth ripples. The fact that the government used a sharp stick to prod domestic banks into lending action has helped spur a rally in both equity and property prices, which is likely why China’s currency reserves grew to the highest level on record today at $2.132 trillion. The rapid pace of lending growth has brought cautious warnings from several analysts who warn about risks of over heating and potential for inflation.

Another positive straw in the wind today came from London and helped further lift the pound to $1.6455. Much of this week’s sterling rebound is owed to the fact that the MPC did nothing to alter its stimulus spending package. According to an interview with the Manchester Evening News, MPC member Charlie Bean urged not to read too much into the bank’s inaction on this front and stated that the Governor could always write to the Chancellor of the Exchequer to request an increase in the agreed upon 150 billion package. While this interview has the potential to damage the pound, focus today is firmly elsewhere.

Unemployment benefit claims in the U.K. rose by a smaller than forecast 23,800 to 1.56 million making it the smallest increase in just over a year. However, a private survey by London-based consultant, Morgan McKinley showed a 20% rise in published financial services related vacancies for June, making the total the highest reading for 2009. It’s being taken as a further sign that recession is an object in the rear-view mirror.

Andrew Wilkinson

Senior Market Analyst ibanalyst@interactivebrokers.com

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