Dean’s FX 4th June|Bernanke attempts to bully FX Markets!

The USD$ is weaker in the O/N trading session. Currently it is lower against 12 of the 16 most actively traded currencies in another ‘whippy’ trading range after Bernanke’s indirect support of the greenback.

He is trying to remain transparent to the market. Yesterday, he reaffirmed the markets view that they will remain on hold for the time being. He said ‘for now, policy seems well positioned to promote moderate growth and price stability over time’. He indicated that policy makers will be watching the ‘ever evolving situation closely and are prepared to act as needed to meet their dual mandate’. That remark reinforced their FOMC statement on April 30th. During his interview he systematically when through the upside risks to inflation and the downside risks to growth. He focused on the two significant upside risks to inflation, firstly, the possibility that commodity prices will continue to rise and secondly, that high headline inflation, if sustained, may result in higher long term inflation expectations. In respect to growth, he argued that we may see an improvement in economic activity in the second half of 2008 ‘reflecting the effects of monetary and fiscal stimulus, reduced drag from residential construction, further progress in the repair of financial and credit markets, and still solid demand from abroad’. But, as usual a disclaimer is involved. Until the housing market stabilizes (particularly house prices) the downside risks to growth will remain. Couple this with higher oil prices and this will add to the downside risks to growth. The market seems to believe that the greater of two evils will be the downside risk to growth. Because, if oil prices continue to rise, thus softening domestic demand, it will likely limit overall inflation growth going forward.

The US $ currently is lower against the EUR +0.09%, CHF +0.23%, JPY +0.31% and higher against GBP -0.41%. The commodity currencies are mixed this morning, CAD -0.26% and AUD +0.68%. Gentle Ben has crashed the party and rained on the loonies advance as it printed monthly lows yesterday. With Bernanke being attentive ‘to the implications of the US currency’s decline’, one can only believe that the CAD$ has further to fall in the medium term. With the Fed ready to respond to the USD$ pushing up inflation by using interest rates, all the variables that have been good for the loonie this year like commodities is sure to come under greater pressure thus tarnishing the CAD$. With the BOC meeting next week and Governor Carney expected to ease rates by 25bp to 2.75% according to future contracts, will snuff out any ‘yield advantage’ and open up the 1.0500-1.0800 top tier. So, it’s not a surprise to see that the loonie trades under pressure due to its strong correlation to commodity prices and investors new found love of ‘risk aversion trades’. Canadian positive economic data is definitely commodity export related and if one excludes this variable from the growth equation then we have an underperforming manufacturing weakened economy that requires some sort of stimulus to revive it, the June 10th BOC potential ease. Traders continue to look for better levels to sell the currency as many missed out on the initial USD/CAD rise this week. With the RBA saying that previous rate increases had caused a ‘moderation in demand’ and decided to leave borrowing cost unchanged this week (7.25%), has attracted investors who seek higher yields, despite the softening of commodity prices which tend to hurt the currency. On a cross related basis the AUD$ is receiving a boost from the ‘carry trade’ strategy (0.9586).

Crude is lower O/N ($123.32 down -99c). Crude oil prices eased yesterday after Bernanke alluded that the US will stop cutting interest rates (2.00%) to bolster the USD$ when he said that he was ‘attentive” to the impact of the weak currency’. Commodities remain under pressure when Bernanke said that the Fed is working with the Treasury dept. to ‘carefully monitor developments in the FX markets’ and is aware of the effect of the greenbacks decline on inflation. To date the weaker dollar has helped lead commodities to print new records this year. The Fed seems to be publicly admitting that the weak dollar is a problem. By default, if steps are taken to strengthen it (interest rates) we could see the commodity markets turn sharply lower, appeasing the consumer. To date, resistance remains at the $135 pivot point. So far this year the black-stuff has appreciated close to 35%. Last week ‘soft’ EIA weekly report said that the biggest drop in US oil inventories in more than 3-years was caused by ‘temporary delays’ in unloading oil tankers on the Gulf Coast. It will be interesting to see what today’s report brings. The ‘Anti-investment Anti-speculation’ focus of the US Govt. continues to remain front and center. Traders will not be surprised to see other large price gyrations in the short time. The head of the Senate Energy Committee in the US wrote an open letter demanding that the CFTC answer sensitive questions about speculations in US energy markets by June 10 (the market expects further liquidation of long positions before then). Gold remains under pressure ($881) after Bernanke signaled that the Fed may be finished slashing interest rates, thus boosting the greenback and eroding the appeal of the yellow metal as an alternative investments.

The Nikkei closed at 14,435 up +226. The DAX index in Europe was at 6,928 down -90; the FTSE (UK) currently is 5,969 down -88. The early call for the open of key US indices is lower. Yields of the US 10-year bond eased 5bp yesterday (3.89%) and are little changed O/N. Treasuries remained advanced again as global equities came under pressure once again, investors are speculating about widening credit-market losses and continue to seek the safety of government debt.

This morning, European retail sales declined -2.9% in April vs. an anticipated -0.8% m/m (a whopping factor of 3), as soaring fuel and food prices undermined consumer spending. This is bound to be the norm for many economies over the next few quarters.

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