Forex siesta part 2!

Lack of optimism dominates all asset classes. Consumer confidence is dwindling and risk aversion strategies are starting to dominate as capital markets resume their bearish sentiment. Will US employment numbers this week provide further instability? Traders wish they could partake in the ‘ostrich syndrome escapades’, but, it’s very difficult to find isolated sanctuary at the moment.

The USD$ is little changed in the O/N trading session. Currently it is higher against 10 of the 16 most actively traded currencies in a ‘subdued’ trading range.

With most of the FX market participants twiddling their thumbs as forex-land enters the summer doldrums, both the FI and equity asset class got a good work out yesterday. With no economic releases of note, the IMF provided the spark that caused spiraling equity prices and government debt to remain better bid. They indicated that there is no end in sight to the housing slump. They expect worsening credit conditions to prolong the global economic slowdown, and remain concerned with financial capital issues. The financial stocks are the main global culprit. Consensus believes that when the do finally come to grips with their problems, their rebound is expected to be muted. Having enough capital remains their main priority, but, before the dust is settled, the market can expect some Tier 11 financials to collapse.

Thank you very much Mr. Bush! A historical two terms he has served, and his final legacy will be having the honor of passing on a record US budget deficit ($482b) to a yet unknown unlucky winner. This will leave a deep budget hole that will constrain the next president’s tax and spending plans for years. Analysts believe that the larger shortfall reflects dwindling tax receipts, due to the economic slowdown, the cost of an economic stimulus package and spending on the wars in Iraq and Afghanistan.

The US $ currently is higher against the EUR -0.05%, GBP -0.04%, JPY -0.20% and lower against CHF +0.03%. The commodity currencies are mixed this morning, CAD +0.06% and AUD +0.00%. Commodity prices are starting to turn the screws on the CAD$. The USD$, until yesterday, had been driven by bullish sentiment, the loonie has wilted due its strong correlation to oil, gold and grains. Commodities account for about 50% of Canada’s exports. Last weeks CPI report added little value to the currency. Despite the higher headline, the BOC has been very transparent in their elevated inflation predictions. The headline print pushed above +3% for the first time in 3-years, while core-CPI remained at +1.5% for the 3rd consecutive month (+0.1%, m/m). This provides us with stronger evidence that current inflation fears are ‘overblown’ and that there is room for the BOC to reduce rates (3.00%) if need be. The headline inflation will eventually lag into core-inflation, but, expect a weakening Canadian economy to continue to offset these pressures. Expect the CAD$ to remain under pressure, because of its ‘proximity and association’ with its southern neighbor. Traders continue to be better buyers of USD/CAD on pull backs. The medium term target still remains at 1.0250-1.03 level.

The AUD has printed a two week low (0.9565) after another Australia’s bank set aside more funds for US credit losses (ANZ-$1.2b). Investor fear that the subprime-mortgage crisis is adversely affecting their banking sector will temporarily put a lid on any AUD$ advances.

Crude is higher O/N ($125.66 up +93c). Nigeria has broken the monotony of continuous lower crude prices. Royal Dutch Shell has reduced its Nigerian production because of an attack on a pipeline by militants. This is not out of the ordinary, but, Nigerian crude is the highest grade, and any affect of production is a global concern. MEND has claimed responsibility for the attack. Don’t expect continued elevated pricing, as reduced global demand remains the biggest thorn for higher crude prices. Prices have dropped more than $22 from their record highs, which was reached in early July, on concern that record prices have cut demand for fuel in the US. The weaker USD$ has also temporarily contributed to supporting commodities. Last week, oil hit a 2-month low after a report indicated that OPEC had boosted output in July (+200k barrels a day) to cut prices as fuel consumption in the US and Asia drop. Similar situation with the Saudis, they can also produce more, but the demand will not be there to soak up this excess production, hence geo-political concerns may only be a temporary support. Technical analysts expect oil price to test the $120 level some time soon. The US consumers is quickly changing their consumption and spending habits as their total wealth has been eroded mainly due to leveraged house prices. Expect Iran to appear on the radar once again, as UN waits for their final response to suspending their nuclear enrichment program to not be a positive one. Last weeks EIA report showed that inventories of gas and distillate fuels (include heating oil and diesel) rose, further bearish evidence. Stocks increased +2.85m barrels to 217.1m (largest increase in 3-months). Distillate fuel stockpiles climbed +2.42m to 128.1m. Concluding that demand is been effected by the higher prices of late as consumers change spending habits. Gold rallied yesterday ($939) as higher energy costs and a weaker greenback have increased the appeal of the ‘yellow metal’ as an alternative hedge against inflation.

The Nikkei closed at 13,353 up +19. The DAX index in Europe was at 6,303 down -47; the FTSE (UK) currently is 5,307 down -6. The early call for the open of key US indices is mixed. Yields of the US 10-year bond eased 5bp yesterday (4.03%) and are little changed O/N. Treasuries remain better bid as global equities returned to their bearish ways coupled with an anticipated record US budget deficit signaling slower growth has fueled demand for the relative safety of the FI asset class.

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