Weekly Outlook: Yen & Swiss Sharply Higher on Risk Aversion, Helped Dollar Recovered

Forex Weekly Review and Outlook
Yen & Swiss Sharply Higher on Risk Aversion, Helped Dollar Recovered

Dollar and yen were the major focuses in a highly volatile week. The greenback tumbled to record low against Euro and multi decade low against Sterling, Aussie and Canadian dollar on increased expectation for Dec rate cut from Fed and concern that dollar is losing the world currency status. However, the concern of deepening credit market problems, which sent world stock markets lower, triggered massive unwinding of carry trades and boosted both the yen and swissy. The strength in yen and swissy in crosses in turn pressured high yield currencies and helped the dollar recovered to close nearly flat against Sterling and higher against Aussie, Kiwi and Loonie. The economic calendar will be very busy this week but those economic data could continue to take a back seat.

The chance of a 25bps rate cut from Fed on Dec 11 was up from around 60% a week ago to near 100% after heightened fears that fallout from subprime markets is spreading deeper into the credit markets and will eventually slow the growth of the economy. In fact, in his testimony to Joint Economy Committee, Bernanke said that growth is expected to 'slow noticeably' in Q4 and remains sluggish in Q1 even though recent data suggested the economy is still 'resilient'. Risk is on the downside, if housing recession spills into consumer spending and business investment. And "a sharp increase in foreclosed properties for sale could also weaken the already struggling housing market and thus, potentially, the broader economy." Meanwhile inflation outlook is "subject to important upside risks" including rising energy and commodity prices ad weakness in dollar.

Dollar also face additional pressure on concern that it may lose its status as the world's currency. Cheng Siwei, vice chairman of China's National People's Congress, said that China will "readjust" the $1.43 trillion of foreign-exchange reserves, favoring "stronger currencies over weaker ones", suggesting that China may diversify away from the greenback. Treasury Paulson later responded by expressing confidence in the greenback, saying there's a reason that it has been the world's reserve currency for decades for its economy.

Further pressure was seen on the dollar with crude oil surging to new high above $98 a barrel, gold rising to 27 year high above $845 and silver rising . Both are crude oil and gold are expected to remain strong and continue its rally towards $100 a barrel and $850 mark.

Data from US saw ISM non-manufacturing index unexpectedly rose from 54.8 to 55.8 in Oct, beating consensus of 54.0. Q3 labor costs dropped -0.2% while productivity rose to 3.9%. Wholesale inventories rose 0.8% in Sep. Jobless claims dropped to 317k. Trade deficit unexpected shrank fro a revised $56.8b to $56.5b in Sep, smallest since May 05. Import price index rose 1.8% in Oct, much stronger than expectation of 1.1% due to 6.9% rise in petroleum prices. Export prices rose 0.9%.

The dollar tumbled to new record low against Euro and Canadian dollar, 26 year low against Sterling and 33 year low against Aussie and took out important support levels against Swissy and Japanese yen too. Though, the dollar recovered against higher yielder and commodity currencies on carry trade unwinding as the week closed.

ECB left rates unchanged at 4.00% as widely expected. During the following press conference, Trichet acknowledged that recent data confirms upward pressures in inflation and reiterates that ECB stands ready to act in a firm and timely manner to ensure price risks do not materialize. Risks on economic growth remains on the downside "in view of the potential impact of prolonged financial-market volatility and the re-pricing of risks". After all, ECB is still in a wait-and-see mode and tightening bias is maintained to anchor inflation expectations.

Data from Eurozone saw PMI Services rose from 54.2 to 55.8 in Oct. PPI accelerated to 2.7% yoy in Sep but retail sales disappointed by rising 1.6% yoy only.

BoE left rates unchanged at 5.75% as widely expected. Without accompanying statement, markets will turn to the Inflation Report on Nov 14 details on inflation and output projections and MPC minutes on Nov 21 for vote split and views of the MPC members. Even though making new 26 years high against dollar, Sterling gave back much gains on carry trade unwinding as well as after news that UK's Barclays would write down about $10 billion due to subprime related problems.

Data from UK saw PMI Service dropped more than expected from 56.7 to 53.1 in Oct, below expectation of 56.2. Industrial production dropped -0.4% mom, -0.2% yoy in Sep vs consensus of 0.2% mom, 0.4% yoy. Manufacturing production dropped -0.6% mom, -0.1% vs consensus of 0.0% mom, 0.6% yoy. Trade deficit unexpectedly widened from -6.9b to -7.8b in Sep, biggest deficit ever recorded.

The Japanese yen surged sharply against dollar and rebounded in crosses on carry trade unwinding after global stock market tumbled on credit market concerns. Yen is additionally boosted by speculations that China will allows it's currency, Yuan, to appreciate faster as PBoC said it will "strengthen the coordinated use of interest rates and exchange rate to help stabilize expectations of inflation". The yuan also jumped to new highs against the dollar in the spot and offshore forwards markets. Swissy followed yen's strength and surged strongly against dollar, Euro and Sterling.

BoJ minutes offered no surprise, with BoJ reiterating that normalization of rates will happen in a gradual manner, to prevent a misallocation of resources in the long run. Japanese machine orders unexpectedly dropped -7.6% mom in Sep, suggesting that strength in corporate activity may be losing momentum.

Commodity currencies strengthened strongly initially on rising oil and commodity prices. Housing data from Canada were disappointing even though Ivey PMI beat expectation. Trade surplus shrank from an upwardly revised 4.3b to 2.6b in Sep, lowest since 98. Canadian Finance Minister Jim Flaherty said exchange rates are having a "serious effect on Canada." RBA hiked by 25bps as expected, raising the overnight cash rate to an 11 year high of 6.75%. The accompanying statement maintained a hawkish tone and expect inflation to climb above 3% in Q1 08. Recent credit crunch in the global economy is expected to have little impact in Australia. Australia unemployment rate edged higher fro 4.2% to 4.3% in Oct. On the other hand, New Zealand unemployment rate dropped to record low of 3.5% in Q3 though employment change was disappointing by dropping -0.3%. However earlier gains in commodity currencies were given back on carry trade unwinding towards the end.

Suggested Readings:

* This Week's Market Outlook
* Weekly Economic and Financial Commentary
* US: A Balanced Bernanke, but with a Touch of Unrest
* Bernanke's Testimony Clarifies Fed's Rate Decision, Downside Risks Mounting
* When Will The US Dollar Bottom?
* Currency Currents: Choppy Waters - China Speaks and Subprime Festers
* FX Briefing: Dollar Weakness Fuels Euro's Rally
* ECB Signals Rates to Remain on Hold
* ECB: Another Month of Wait and See
* Euro: What Did ECB President Trichet Say?
* Euro: All Clear to 1.50?
* FX Crossroads - EUR/USD: New High, then What?

The Week Ahead

Risk aversion and carry trade unwinding will likely continue to dominate the markets with economic data taking a back seat. Note that a rate cut from Fed in Dec is now like a done deal. More bad news from the credit markets and the economy will continue to send stock markets lower and in turn boost yen and swissy. Dollar may indeed continue to benefit from such carry trade unwinding activities as all high yielders are dragged down.

US markets will start with holiday on Monday. Main focus will be on Wednesday's retail sales and PPI as well as Thursday's CPI. Other data include pending home sales, Fed budget, business inventories, regional Fed survey from NY state and Philadelphia, TIC capital flow and industrial production.

It is also big week for Sterling. PPI and CPI will be released with Quarterly Inflation Report from BoE. Employment report and retail sales will also be closely watched.

From Eurozone, Germany ZEW and Q3 GDP will be the main focus together with final HICP, industrial production and trade balance. Swiss ZEW will also be featured.

From Japan, BoJ is widely expected to keep rates unchanged at 0.50% again. Q3 GDP will also be closely watched.

From Australian, main focus will be on RBA Quarterly Monetary Policy Statement.

Suggested Readings:

* Economic Calendar Summary 11/11 - 11/16
* Economic Outlook: Will the US Slip in the Oil?
* Weekly Focus: Currency Regimes May be Tested
* GBP/USD May Rebound on Monday If UK Producer Prices Surge
* Junk Bond Spreads Are Rising! Watch out for more Carry Trade Losses
* The 9 Week Trading Anomaly in USD/CAD
* Australian & New Zealand Weekly: Issues for RBA's Statement on Monetary Policy
* Australian Dollar Rebound Potential Offers Range Trade Opportunity

Sources..click here for more analysis