Forex Weekly Trading Forecast - Oct 18,.09

US Dollar May Be Setting Stage for Advance


Fundamental Outlook for US Dollar: Bullish

- US advance retail sales fell 1.5% in September, led by contraction in auto sales

- Fed meeting minutes indicated that Bernanke & Co. were open to expanding MBS purchases in September

- US inflation reports continue to give mixed signals, with headline CPI at -1.3% and core CPI at 1.5%

The US dollar was one of the weakest major currencies last week, with the Japanese yen beating the greenback to being the biggest loser, as market sentiment reflected increased risk appetite. This was probably best exemplified by the media’s euphoric response to the DJIA’s test of 10,000 on Wednesday and close above on Thursday, but with extreme optimism comes the risk of reversal.

Looking to the week ahead, US dollar event risk will start to pick up again on Tuesday as US housing starts and building permits are projected to have risen for the second straight month in September to 10-month highs, with starts anticipated to hit 610,000 from 598,000 while permits may rise to 590,000 from 580,000. While the unemployment rate is still in the process of rising, the federal government’s tax credit for first-time home buyers of up to $8,000 is likely to remain supportive of demand through the end of the year. However, if the program expires as planned on December 1, the growth we’ve started to see in the housing sector could start to wane.


The release of the Fed’s Beige Book report may not have a huge impact on trade on Wednesday, but it will serve as a good compilation of statistics on how the central banks 12 districts are faring economically. On Thursday, the leading indicators index is projected to rise for the sixth straight month, this time by 0.8 percent. However, gains are likely to be mostly the result of stock prices and the interest rate spread, while gauges of employment and business investment should remain weak.

Finally, on Friday, the National Association of Realtors’ index of existing home sales is expected to rise 5.9 percent for the month of September to an annual rate of 5.4 million, the highest in just over two years. Other factors to keep in mind are supply levels and median prices, both of which have fallen steadily to 8.5 months and $177,700, respectively. As with housing starts and building permits, the federal government’s tax credit for first-time home buyers of up to $8,000 is likely to remain supportive of demand through the end of the year, though surprise declines, as we saw in August, are not out of the question. – TB

Euro Near Major Top Against US Dollar, but Timing Anything but Clear

Fundamental Forecast for Euro: Bearish

- Falling Consumer Prices force Euro Losses

- Euro stems losses on strong earnings reports

- EUR/USD Sell Recommendation issued at 1.5035

The Euro finished the week considerably higher against the downtrodden US Dollar, but late-week pullbacks showed that traders were not yet willing to push it above the key 1.5000 mark. A strong week for major corporate earnings offset fairly disappointing Euro Zone economic data, and indeed it seems that the risk-sensitive Euro has relied on rallies in broader financial risky asset classes instead of trading off of domestic developments. Global equity indices posted yet another week of gains, and the US Dow Jones industrials Average traded above the psychologically significant 10,000 mark for the first time in nearly a year. The key question going forward is whether the Euro can trade higher on its own merits.

Though it has benefitted from the general uptrend in financial market risk sentiment, traders are likely to scrutinize Euro fundamentals as it approaches fresh highs against the US Dollar. The fact that net Non-Commercial Futures positioning is at its most net-long since the EURUSD traded at 1.60 shows sentiment is at clear extremes, and the probability of a major EURUSD top has increased considerably. A relatively quiet week of economic event risk gives us little in the way of foreseeable volatility, but Forex Options markets volatility expectations have nonetheless jumped considerably on recent US Dollar tumbles.

Traders will keep an eye out for German IFO business confidence data and Industrial New Orders report, but the center of attention will likely remain the US S&P 500 and broader risky assets. The rolling 50-day correlation between the EURUSD and S&P currently trades just short of record highs—emphasizing exchange rate sensitivity to broader financial flows. Key indices have likewise set fresh 2009 highs and remain ripe for corrections. If we were the betting types (and we are), we would wager that the Euro trades near a major top versus its US counterpart. To borrow a popular trading cliché, however, markets can remain irrational for far longer than you can remain solvent. Of course in this case we might say “Sentiment can remain extreme for far longer than you can maintain proper available margin.” The timing of a key EURUSD top remains anything but clear, and the week ahead will likely produce sharp price moves across major forex pairs. - DR

British Pound Looks to 3Q GDP to Keep the Bullish Momentum


Fundamental Forecast for British Pound: Neutral
- A few optimistic comments from the BoE’s Fisher triggers the sharpest pound rally in months

- UK jobless claims rise by the smallest amount since May of 2008

- Has the GBPUSD rally too far, too fast? What is the technical picture of this major pair?
There was a none-too-subtle shift in sentiment for the British pound last week. With just a few comments from a member of the Bank of England, we have seen the pound shoot higher against all of its major counterparts. Just to give some perspective as to the strength of this rally, the sterling set its biggest one day advance against its primary counterpart (the euro) in eight months. An objective assessment of BoE Markets Director Paul Fisher’s remarks were relatively ambiguous and has neither been confirmed by any other officials nor has there been any action to support his claim that the BoE would in fact pause its bond purchasing program to preserve options in the face of a tentative recovery from recession. However, we will soon see whether these remarks hold water with both the BoE minutes and the advanced reading of 3Q GDP due over the coming week. We may be looking at one of the most fundamentally influential periods for the pound in months.

It’s been a long time since we could say that upcoming event risk could produce a meaningful change in the underlying trend of the British pound (short of extending the currencies painful tumble). However, the economic docket ahead certainly has that potential. There is a range of notable economic indicators on deck; but only two can truly redefine the currency’s future. The first release to take note of (and the most likely to reverse or maintain this past week’s momentum) is the minutes of the central bank’s last rate decision due on Wednesday. If there is any merit to Fisher’s forecast for the MPC to put a pause on their quantitative easing program, it could very well come from this report. On the other hand, if his outlook perhaps was for something further down the line; then no mention of a change from the status quo could send a bearish ripple through the sterling crosses. It is very likely that policy officials wanted to hold off on making any decisions until after the release of the initial third quarter growth numbers. This would be a reasonable move and it could give some official support for such a change in policy; but the reversal that we saw last week was borne out of sheer sentiment. To sustain such a move, we need a real fundamental backing. The other scenario would be confirmation that the purchasing program has indeed been put on hiatus which would be the first genuine change in the bank’s policy tone since the financial crisis picked up steam. Such an event could truly alter the currency’s standing in the FX market.

The other major event for the week is Friday’s third quarter gross domestic product release. It is unfortunate, from a traders’ perspective, that this report comes out just before the weekend; because if it was released on a Monday there would be far more liquidity and time for the reaction to play out. However, as it is, there are mere hours to trade on the data before the weekend drains liquidity and rational minds can take over. This is not to mean this is going to be a non-event. Far from it. The bleak economic outlook for Europe’s second largest economy has been the source of the sterling’s weakness over the past 12 to 18 months. When the outlook for the global economy was pointing to a recession, the UK was projected to see the worst of it. In the subsequent reversal, the United Kingdom was seen struggling to pull itself up. Should the 3Q reading report growth in the period through September, it would be a major step towards seeing a more meaningful recovery. A positive reading will be considered bullish; and the bigger the upside surprise, the more aggressive the pound’s run will be. Read through the details of the report though. – JK


Japanese Yen Relinquishes its Top Safe Haven Status to the Dollar
Fundamental Forecast for Japanese Yen: Bearish

- The market has maintained its bullish drive; but will we reach a fundamental and technical extreme?

- Is the dollar the top funding currency?

- Will the yen’s reversal develop into a more progressive trend?

What is the most influential driver behind the Japanese yen? The same underlying current for all capital markets: risk appetite. It used to be the case that the yen’s relationship to market sentiment was one of the most straightforward fundamental relationships that the FX market had to offer. When the market found its appetite for yield, the currency would be sold against counterparts that bore better interest rates. And, when fear gripped the markets and traders want to abandon their risky positions, the yen would appreciate. However, this most basic of relationships has changed in recent weeks. The yen is no longer saddled with the burden of being the top funding currency for the ever-present carry trade. That leaves us with a few questions to sort out next week’s price action: which direction will risk appetite take; how will the yen respond to sentiment trends; and will more traditional fundamentals fill in the fundamental hole?


To answer the first question, we saw a faltering in risk appetite through the end of this past week; but it certainly wasn’t a reversal. In fact, the seven-month rise in optimism looks as stable and strong as it ever has. However, the fundamental drag on this speculative run could soon tip the scales. Capital is still finding its way into the market – and there is a lot of sidelined money to be reinvested – but the major of those funds that are still in relatively ‘risk-free’ assets below to those that are skeptical of the rally to this point or need true interest income rather than the promise of capital gains. Since much of the capital that has returned to the speculative space to this point is looking to ride the steady rally; there is significant risk that a modest pull back could trigger a wave of profit taking that develops a new trend. Does that mean this will happen next week? No. However, a catalyst could certainly move up the time-table for such an outcome. The third quarter earnings season in the US holds this kind of influence. So far, the numbers have been hit-or-miss. Non-financials show the real trajectory of growth (and the comparisons to activity just two years back shows how weak conditions truly are); but the banks are what traders are really looking at. Earnings have surprised for Goldman Sachs and Citigroup; but the first owes its income to trading and the second is likely rolling loan losses into the future. Bank of America’s reading was likely the better reflection of the real health of the group. A $1 billion loss was led by significant lending right offs. If write downs are just being pushed backed and loan loss reserves not bolstered, the pain is just being delayed.
The next question we have to ask is whether the Japanese yen has flipped its response to risk trends. We saw USDJPY rally over the final days of this past week when sentiment stabilized and pulled back somewhat. However the yen has not abandoned its funding currency status. Taking a look beyond current conditions (where the Japanese Libor is at a premium to the United States’), the Japanese rate is likely to be held at near zero for the longest of its peers. What’s more, the availability of funds is no doubt going to be much higher for Japan. A naturally high savings rate, loose monetary policy and deflation are all buffers of cash.
But, in the interim, should we expect regular fundamental event risk take over for price action? Well, considering the direction the yen held over the final two days of last week when the Bank of Japan and Cabinet Office upgraded their economic forecasts, there is a low probability that data will offer too much guidance. Besides, there are few major market movers scheduled for release on the docket. - JK

Source : Dailyfx.com