By Darrell Jobman, Editor-in-Chief of

Developments surrounding the US and global financial markets remained of critical importance during the week and this contributed to very high volatility as market stresses were severe for much of the time.

The House of Representatives rejected the bailout package on Monday due to fears that it would be unpopular and this caused major stresses with Wall Street weakening sharply as the Dow Jones index recorded the sharpest ever one-day points decline.

There were still severe structural difficulties in the money markets with a further dollar shortage as institutions hoarded cash. Interest rates remained at elevated levels despite further massive liquidity injections by the central bank and the technical factors helped underpin the US currency as institutions were forced to buy. Tensions eased marginally in Asian trading on Friday.

The US data releases had a weak tone and suggested that demand may have suddenly weakened sharply. The ISM index for the manufacturing sector fell sharply to 43.5 in September from 49.9 the previous month as all the major components dipped sharply. Historically, a decline to below the 45 level has always signalled a recession.

In addition, there was a 4.0% decline in factory orders in August and car sales weakened sharply while jobless claims edged higher to 497,000 from 496,000 previously, also at a seven-year high, which suggests recession.

The latest employment report recorded a 159,000 in non-farm payrolls for September, the largest decline for over five years, while the unemployment rate remained steady at 6.1%.

Later in the week the Senate passed an amended bailout package with the House due to vote on Friday, but US asset prices remained on the defensive as Wall Street came under renewed pressure on wider fears over the economic outlook.

US Dollar Index
Source: VantagePoint Intermarket Analysis Software

The Euro-zone banking sector was an important focus over the week. The Belgian authorities were forced to provide a support package to Fortis while the French government also stepped in to provide additional capital for Dexia. The Irish government announced that all banking deposits would be protected to help support the sector.

The ECB left interest rates on hold at 4.25% at the latest council meeting. In the press conference following the decision, Chairman Trichet stated that the inflation risks had diminished while the market turbulence had increased. The comments were taken by markets to confirm that the bank had moved to an easier bias and would look to cut interest rates at or before the November meeting which triggered further selling pressure on the Euro.

The dollar strengthened sharply over the week with gains to a 12-month high on a trade-weighted index while the US currency also rose to a 2008 high against the Euro with an advance through 1.38.

The yen moves were still dominated to large extent by degrees of risk aversion and underlying tensions provided important yen support. The currency gained sharply as Wall Street was subjected to heavy selling pressure and retained a firm tone. The yen consolidated near 105 against the dollar and advanced to a two-year high against the Euro. The Swiss franc was also able to gain some traction against the Euro with highs near 1.56.

Both the Australian and Canadian dollars came under pressure during the week with weakness stemming from the strong US currency and decline in commodity prices with Australian dollar lows near 0.77 while the Canadian currency weakened to beyond 1.08.

The UK financial sector remained a key focus with the Bradford & Bingley taken into public ownership as it faced collapse and there were wider fears over the sector.

The economic data maintained a very weak tone which reinforced fears over the economy. The PMI index for the manufacturing sector weakened to 41.0 in September from 45.3 the previous month and this was the weakest reading for 16 years while the services-sector report also fell sharply to 46.0 for the month.

The mortgage approvals data remained extremely weak with a sharp reduction in mortgage financing while net consumer lending also weakened very sharply over the month. The data reinforced fears over the hosing sector and the economy. GDP for the second quarter was confirmed at 0.0% while business investment remained weak.

The Bank of England quarterly survey recorded a further tightening of credit conditions with the situation likely to tighten further and there was further pressure for lower interest rates, especially as market interest rates remained at elevated levels.

The UK currency advanced against the Euro with a push to a 7-week high near 0.7810, but reversed the recent recovery against the dollar with a move to 1.76 in volatile conditions. For the quarter, losses against the dollar were the steepest for 16 years.