By Darrell Jobman, Editor-in-Chief of

Market volatility remained at extremely high levels during the week as financial fears persisted while the US an global economic outlook also came into much greater focus.

At weekend meetings, G7 officials pledged that they would take all measures to protect the banking sector and stabilise the financial sector as a whole.

As part of these measures, the US Administration announced that it would take equity stakes of up to US$250bn in the top US banks to help stabilise the sector, although there appeared little enthusiasm for the plans within the Treasury.

The US economic data gave increased cause for concern. Retail sales fell by 1.2% in September with a core 0.6% decline which was the steepest decline for over three years as there were falls across most categories.

The New York manufacturing index fell sharply to -24.6 in October from -7.4 previously which was a record low for the index The Philadelphia Fed index also weakened rapidly to -37.2 in October from +3.8 the previous month and this was the lowest reading sine 1990. Industrial production fell a sharp 2.8% in September, although this was distorted by the impact of hurricanes and the Boeing strike.

There was some relief from the US jobless clams which edged lower to 461,000 in the latest week from 477,000 previously. The Fed’s Beige Book recorded a further slowdown in the economy and a sustained tightening of credit conditions. Housing starts weakened to the lowest level for17 years for September.

Fed Governor’s Yellen and Bullard, who are non voting members of the FOMC this year, voiced caution over the need for lower interest rates. The attitude from Fed Chairman Bernanke were generally more downbeat with comments that the economy faced serious risks and Governor Kohn was even more negative in his remarks.

In this environment, markets continued to price in further interest rate cuts by the Federal Reserve. Credit markets remained an important focus and, although Libor rates remained at highly-elevated levels, there was a gradual narrowing of spreads.

US Dollar Index
Source: VantagePoint Intermarket Analysis Software

The German and French governments moved to increase depositor protection in the banking sector. The money markets also remained an important focus by amending the domestic money-market rules and providing unlimited dollar liquidity to counter recent shortages.

The German ZEW index fell sharply in October to -63.0 from -41.1 the previous month, reinforcing expectations of a sharp deterioration in conditions. Comments from ECB officials suggested that they would move cut interest rates further.

The dollar strengthened at the end of last week as global equity prices fell sharply on recession fears. Global banking stresses intensified with markets barely functioning as liquidity dropped. The US currency remained volatile during this week and retained a generally firm tone.

The yen moves were still dominated by degrees of risk aversion and the currency gained renewed strength as equity markets were subjected to downward pressure.

The Bank of Japan held an unscheduled monetary policy meeting during the week. The central bank left interest rates unchanged at 0.50%, but announced a suspension of share sales and also pledged that it would provide unlimited dollar liquidity.

The yen strengthened to highs beyond 99 against the dollar, but struggled to sustain the advance beyond the 100 level and edged lower late in the week. The Japanese currency retained a firm tone against the Euro with a high degree of volatility.

The UK government brought forward its plans to invest in the banking sector with plans to take stakes of up to GBP37bn in two of the main banks in order to boost capital if the banks were unable to raise the new funding themselves.

Consumer inflation continued to rise in September with the annual rate increasing to 5.2% from 4.7% the previous month as energy costs continued to rise strongly. The core rate rose to 2.2% from 2.0%. The data impact was limited with expectations that there would be a sharp decline in inflation pressures over the next few months.

UK unemployment data recorded a further 31,800 increase in jobless claims in September after a revised 35,700 increase the previous month and there was the biggest quarterly increase for 17 years during the last recession.

MPC officials took a generally negative stance towards the economy, reinforcing market expectations that interest rates will be cut again in the near term.

Sterling remained volatile over the week, but did find some degree of resilience with support towards the 1.70 level against the dollar while it also secured net gains relative to the Euro with tough resistance on moves towards the 0.7750 level.

The authorities provided support for the main Swiss banks as confidence surrounding the sector deteriorated. The government will take a stake in UBS and the bank’s non-performing loans of up to CHF60bn would be transferred out of the bank into a new fund. The initial reaction was slightly positive for the franc on relief that stresses in the sector were being tackled with reduced fears over deposit outflows.

There was only limited domestic economic news, but there was a very sharp deterioration in the ZEW business expectations index to -91.1 from -44.4 previously.

The dollar hit tough resistance close to the 1.15 level against the franc, but retained a generally firm tone. The Swiss currency retained a generally robust tone against the Euro with renewed gains late in the week.