The U.S. Dollar fell today on speculation that Fed Chairman Bernanke, during his speech on Friday before the central banker’s conference in Jackson Hole, Wyoming, will hint that the Federal Reserve could take further action to prop up the U.S. economy.
Early gains in the U.S. equity markets helped higher-yielding currencies, including the Canadian, Australian and New Zealand Dollars. The weak outlook for the economy boosted interest in the Euro, British Pound, Swiss Franc and Japanese Yen.
The Dollar opened lower on Thursday and was driven further down by a slightly better than expected U.S. Weekly Initial Claims report. This weakness lasted until shortly after the equity markets opened. The Forex markets began to weaken against the Dollar once equity markets topped and began a slow downward slide.
At first it appeared it was going to be a “risk-on” session, but sentiment shifted as investors decided there wasn’t enough bullish news to maintain the rally in the stock market. Another reason for the mid-morning break was position squaring ahead of tomorrow’s key speech by Bernanke.
Earlier in the week I questioned whether the Fed was out of bullets to combat the economic weakness threatening the U.S. economy. Having watched two dismal U.S. housing reports this week, I am now anxiously awaiting Federal Reserve Chairman Bernanke’s outlook for the economy, his explanation for the Fed’s recent decision to buy Treasury Bonds, and perhaps what the Fed could possibly have left in its toolbox to combat the threat of a double-dip recession.
No one is certain what Mr. Bernanke will talk about on Friday at the annual Fed gathering of central bankers in Jackson Hole, Wyoming. There is plenty to talk about since the economy has changed so much since the last Fed meeting earlier in the month. Based on his recent public statements, the Fed Chairman is likely to reiterate his concerns about persistently high unemployment and the extremely low inflation rate that is threatening to drive the economy into a deflationary scenario.
Because of the current fragile state of the economy, Mr. Bernanke’s comments are likely to move the equity and debt market substantially. Since he doesn’t have the evidence to paint a rosy outlook, he is going to have to stay the course by reiterating that the economy remains “uncertain” and cooling off or he may reveal a bleaker outlook.
There is no question based on current activity in the Treasury and equity markets that the Fed is moving the market. Its recent decision to buy Treasury Bonds, for example, has triggered a huge rally in this market prompting some to call it a “bubble.” Equity markets have weakened since the last Federal Open Market Committee meeting because its move to buy Treasuries sent a message that perhaps the economy was weaker than previously thought.
I believe Bernanke has to speak about the economy with clarity and conviction. This may help to bring relief to those investors suffering from a “crisis in conference.” Bernanke also has to provide a little color about what the Fed is considering to do should the economic situation continue to worsen. One thing that he may shed some light on is whether the Fed is considering lowering the interest rate on reserve deposits banks have with the Fed. This may encourage banks to open up their lending windows a little.
Since this will be a question and answer session with Bernanke and he is used to a professorial speaking style, there is the possibility that reporters will ask tough questions that he has difficulty answering. This could contribute to the already expected high volatility.
In addition to the Fed Chairman’s speech, U.S. 2nd Quarter GDP – Second Estimate will be watch closely by investors. Since this report will be released before Bernanke talks, its interpretation will set the tone for the day unless Bernanke says something extremely optimistic about the economy. Economists are estimating that GDP will show growth of 1.3% versus the previous estimate of 2.4%. The worst case scenario will be negative growth. This would send the Dollar and T-Bonds soaring and equity markets plunging in heavy flight-to-safety buying.
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