Dean’s FX May 16th | Bernanke’s warning

The USD$ is weaker in the O/N trading session. Currently it is lower against 11 of the 16 most actively traded currencies in a ‘subdued’ trading range.

Yesterday, manufacturing activity contracted more than expected in the NY Fed region. The Empire State manufacturing index fell to -3.2 vs. market expectations of a flat reading. New orders fell, while prices paid spiked higher. It’s worth noting that survey respondents indicated they expect the pace of price gains to slow somewhat over the next 12-months. Other data showed that US industrial production fell more than twice as much as forecasted last month (-0.7% vs. -0.3%), as the slowdown in consumer spending prompted car and appliance makers to cut back. While capitalization utilization (measures the proportion of plants in use) fell to 79.7% vs. 80.4% m/m, the lowest level since Sept. 2005. Manufacturing is now showing clear evidence of weakening, as the housing slump, restrictions on credit and soaring food and fuel prices have caused consumers and businesses to curb purchases of expensive items. Expect everyone to tighten their belts. The Philly Fed manufacturing report fell into the category of ‘not as bad as feared’ and ‘not as bad as last month’ (-15.6 vs. -24.9). The demand components were above last month, but not considered overly robust, while prices pressures moved higher for both inputs and selling prices.

In a speech in Chicago yesterday, Bernanke has again asked financial institutions to step up to the plate. It has been the Fed’s mandate to push Banks to raise capital so they can help the economy by expanding lending as the credit crisis wanes (Is it?). He said that he ‘strongly urges financial institutions to remain proactive in their capital-raising efforts. Doing so not only helps the broader economy but positions firms to take advantage of new profit opportunities as conditions in the financial markets and the economy improve.’ I expect it’s difficult to squeeze more capital from sovereign funds at this moment. The larger international institutions of course should remain attractive in the longer term to investors, but, it will be the Tier 2 banks that we should worry about. Over the next few quarters as further bad debts finally crystallize, we will understand the true effect.

The US job markets remain in contraction mode, with initial jobless claims coming in at +371k vs. +365k w/w, while continuing claims picked up by +40k to 3.06m. This indicates further losses in hours worked in the US economy and further ongoing downsides to consumer support.

The US $ currently is lower against the EUR +0.33%, GBP +0.09%, CHF +0.46% and JPY +0.17%. The commodity currencies are mixed this morning, CAD -0.03%% and AUD +0.54%. Yesterday, Canadian data revealed a sharp decline in auto-production and widespread weakness in 18 out 21 manufacturing industries. This has led shipments lower for Mar. as the strong CAD$ and a weak US economy continues to take a bite out of Canada’s trade sector. Labor issues and weaker demand south of the border has led too much of the weakness in the auto sector. However, ex-auto shipments fell -0.9% m/m, as large losses were reported across the board. Not surprisingly, petroleum shipments were among the industries to experience a gain. Commodities have curtailed the loonies’ negative movements. One gets the feeling that the CAD$ is once again well sought after as higher commodity prices and declining pessimism about the global economy boosts the currency’s appeal. With oil prices continuing to edge higher and the US situation potentially stabilizing, the focus is again shifting to commodities. The loonie has gained by its proximity and association with its southern neighbor. Corporate USD$ bids continue to queue below parity. Global equities and commodity prices have given the AUD a leg up in the O/N trading session. Investors were also happy to enter the carry trade as currency volatility declined ($0.9457).

Crude is higher O/N ($124.81 up +69c). Crude oil had a whip lash trading session yesterday. Firstly, becoming elevated after Euro-land data showed that economic growth accelerated in the 1st Q, thus convincing traders that European fuel use will climb. It seems that a contraction in one economy is being made up by growth elsewhere. Couple this with the Saudi Oil minister declaring that demand in emerging markets continues to rise even as prices reach new record highs had provided further support for the black stuff even as we head into the long driving season in North America. Price action reversed its course in the afternoon after the EIA report showed that US supplies of natural gas, which competes with petroleum-based fuels, increased more than forecasted w/w (+93b c.f vs. +88b c.f). Earlier EIA reports in the week showed that US supplies of distillate fuels (including diesel) rose more than forecasted. Stocks of distillate fuel gained +1.34m barrels last week vs. the expected +1m barrels. But, total implied US fuel demand fell -2.7% from a year earlier to 20.3m barrels a day last week. This reduction may be due to overall higher oil prices, the slowing of the US economy and consumer changing their behavior. This had caused oil to pare its record run. US crude-oil inventories have now climbed in 15 of the past 18 weeks. Gold has rallied aggressively ($883-the most in a week) as the greenbacks rally stalled and energy costs climbed, thus boosting the appeal of the yellow metal as a hedge against inflation.

The Nikkei closed at 14,219 down -32. The DAX index in Europe was at 7,161 up +81; the FTSE (UK) currently is 6,333 up +82. The early call for the open of key US indices is higher. Yields of the US 10-year bond eased 8bp yesterday (3.86%) and are little changed O/N. Treasuries rallied after Federal reports revealed that NY manufacturing unexpectedly contracted and US industrial production fell, thus convincing traders to increase their bets that the Fed will cut interest rates again next month (2.00%).

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