Financial-market stresses were an important focus as fear became the dominant feature once again for much of the week. There was further speculation, for example, that the Bank of America and Citigroup would require additional government support to survive. On Friday, the US Treasury announced that Bank of America would receive US$20bn in equity. The Senate also approved the second US$350bn TARP tranche which eased market fears.
The US economy continued to have an important influence on market sentiment. The retail sales data was even weaker than expected with a sharp 2.7% decline for December, the sixth successive decline, while underlying sales fell even more sharply by 3.1%. Given that the November data was also revised weaker, fears over the consumer spending outlook continued to increase.
The New York manufacturing PMI survey strengthened to -22.2 for January from a revised -27.9 the previous month and there was a similar pattern for the Philadelphia Fed index with an improvement to -24.3 from -36.1. The data suggested that the rate of decline in the manufacturing sector may be easing, but there will be unease over unemployment as the Philadelphia Fed employment index was at a record low.
Jobless claims rose to 524,000 in the latest week from 470,000 the previous week. In contrast, the number of continuing claims fell back after last week’s sharp increase.
The US trade deficit was sharply lower than expected with a decline to US$40.4bn for November from a revised US$56.7bn the previous month and this was the lowest figure since November 2003 as imports fell sharply and exports also declined. There was a net outflow of long-term capital for November which maintained unease over the US financing position despite the trade deficit decline.
The Fed’s Beige Book reported that economic conditions had weakened further in the last month. Credit quality also remained a concern while layoffs continued in most districts. Fed Chairman Bernanke continued to express major concerns over the economy with comments that further bank bail-outs may be required. The structural vulnerability was also illustrated by a US$83bn Federal budget deficit for December compared with a US$45bn surplus last year.
Source: VantagePoint Intermarket Analysis Software
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Confidence in the Euro-zone economy was weaker with sentiment also damaged by financial fears after wider than expected losses at Deutsche Bank.
There were increased fears over the structural outlook with Greece’s debt credit rating downgraded by Standard & Poor’s while there were warnings that Spain and Ireland’s ratings could also be under threat. There were reports that the Irish government was close to requesting IMF assistance, although these reports were denied, while bond yield spreads within Euro-zone countries continued to widen.
The ECB cut interest rates by a further 0.50% to 2.00% at the latest meeting which was in line with consensus expectations and pushed rates to equal the record low.
In the press conference following the meeting, bank Chairman Trichet continued to warn over risks to the Euro-zone economy. He suggested that the inflation risks were balanced with a further decline over the next few months followed by a renewed increase over the second half of the year.
Trichet also stated that March was likely to be the next important meeting when the bank would have fresh forecasts available. The comments strongly suggested that the bank will look to hold rates steady at the February meeting to assess developments.
The dollar maintained a firmer tone against the main European currencies over much of the week and pushed to a one-month high against the Euro near 1.30. The US currency gained some defensive support as risk appetite was lower, but weakened from its best levels with a decline back to 1.33.
The yen had a similar pattern over the week. It pushed to highs near 88.50 against the dollar while it also strengthened to a one-month high against the Euro. A renewed downturn in risk appetite helped trigger demand for the Japanese currency.
Core machinery orders declined by 16.2% in November which was double the decline expected. The Keidanren industrial organisation stated that there was the need for intervention to weaken the yen which renewed speculation that the Finance Ministry could order action on the exchange rate.
The US financial support provided some support to risk appetite on Friday which pushed the dollar back above the 90.0 level as equity markets rallied. Risk appetite was also very important for the commodity currencies with the Australian and Canadian dollars dipping sharply before a rally late in the week.
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Sterling was hampered by a renewed spike in risk aversion while a renewed focus on banking-sector weaknesses offered no support.
The UK retail sales evidence remained weak with the BRC report recording an annual like-for-like sales decline of 3.3% for December while there was a very weak BCC survey on business trends.
The November trade deficit for goods rose to a record GBP8.3bn from GBP7.6bn previously as non-EU exports declined. The data further undermined confidence in the economy with fears that the improved competitiveness will not have a major beneficial impact on trade.
The UK currency dipped to re-test six-year lows below 1.45 against the dollar. It was more resilient against the Euro and consolidated stronger than the 0.90 level while it regained ground against the dollar on Friday with some support from major difficulties in the global economy.
