Forex Weekly Trading Forecast - May 03, 2010

US Dollar Strength Depends on Nonfarm Payrolls, Euro Zone Resolution

Fundamental Outlook for US Dollar: Bullish

- US Dollar rallies against Euro on sovereign debt crises in the Euro Zone

- Euro nonetheless stages recovery as US Dollar falls amidst stock market strength

The US Dollar finished the week lower against the Euro and other major forex counterparts, shedding early-week gains on a relative calm in ongoing Euro Zone fiscal crises. The Greenback had originally hit fresh multi-month highs against the downtrodden Euro as major rating agencies downgraded long-term sovereign credit ratings on both Spain and Portugal. Yet official announcements on further budget cuts and financial aid to Greece helped calm tumultuous FX markets. Market attention now turns to the upcoming week of critical US event risk, and the next several days of trading may very well dictate more medium-term direction in the US Dollar and other major currency counterparts.

A late-week US Nonfarm Payrolls report will likely dominate headlines in the coming week, but traders should likewise monitor any and all developments in earlier event risk. Indeed, the usual battery of pre-NFP releases should give a much better sense of what to expect from the highly market-moving US employment report. First on the ledger, analysts forecast that the ISM Manufacturing report showed robust growth in goods-producing sectors through the month of April. Any surprises in said number could color expectations for historically market-moving ISM Services data due just two days later.

Wednesday’s ADP Employment and Challenger Job Cuts data could likewise color forecasts for what promises to be a contentious NFP release. A poll by Bloomberg News shows that economists predict the US economy added a net 75k to 300k jobs in April with a median prediction of a 200k gain. The large spread between the low and high estimate truly underlines the indecision surrounding the release and will likely make any surprises that much more significant. Substantial hiring for the 2010 US Census should theoretically leave risks to the topside, but NFP results are notoriously difficult to predict.

US Dollar bulls should hope that the economy added jobs for a second consecutive month, and it would be the first such occurrence since December, 2007. With so much riding on the release, any especially large surprises could easily set the tone for US Dollar trading in the days to follow. Traders will certainly wonder whether the all-important US labor market has truly turned the corner and if consumer spending can recover through the second quarter.

Recent upward momentum leaves the US Dollar at an advantage over the Euro and other majors, but the wildcard remains whether markets see resolution in ongoing Euro Zone fiscal crises. Some have claimed that the EURUSD rallied into Friday’s close in expectation that the European Monetary Union and International Monetary Fund will announce a bailout for Greece over the weekend. That is a possibility, but if true would suggest that the US Dollar stands to gain on inaction. It should be an interesting start to what promises to be a similarly eventful week of forex trading. - DR

Euro May Find Temporary Reprieve with a Greek Bailout Approval

Fundamental Forecast for Euro: Bullish

- Greece debt rating cut to Junk, Portugal following the same path
- Spain rating downgrade suggests financial trouble spreading to larger EU economies
- EURUSD rebounds from 12-month lows, which trend will develop into next week?

Is the euro on track for a fundamental upswing? It may seem absurd to suggest a currency that is facing an internal financial crisis and has summarily been relegated to the lower echelons of growth and interest rate expectations is preparing to mount a charge. However, fundamentals go only so far in explaining the direction and progress of a currency. The true determinant for the euro or any other unit’s strength is speculative sentiment. So, while the medium-term health of the European region has been severely diminished over the past weeks with downgrades, a weak commitment to ensuring stability and a dramatic rise in debt financing costs; there may be a sense of optimism to be found in the fact that conditions have not deteriorated further. Given the default premiums that have been priced into the currency and its assets recently, a steady stream of disappointment and fear is needed to bear these extreme levels of uncertainty. Otherwise, the extraordinary costs of insurance will be deemed too high. Furthermore, a balancing of sentiment could further tip into a short-term rally should the European Union finally accept the conditions of the financial assistance package promised to Greece some weeks ago.

Approximately three weeks ago, the EU and IMF looked to quell doubts over Greece’s solvency by announcing a 45 billion euro financial assistance package that would be made available to the member should it be activated. Though it may seem impractical at this point, there was no doubt more than one official that had hoped that the mere promise of support eliminate fears. However, just a week later, the Greek Prime Minister Papandreou would be forced to activate the life line. And, even though the nation finally changed its tune from assuring the market’s that it could handle its fiscal obligations without help, the EU would not be so quick to open the purse. Debate has continued over the conditions of the loans that will be made; though officials have promised discussions were on the fast track. Yet, since the official plea for help, Greece’s situation has worsened with a sovereign credit rating downgrade to junk and cuts to both Portugal and Spain. The IMF has estimated that it may take a total of 100 to 120 billion euros to stabilize Greece. The total to support Portugal, Spain, Ireland and Italy among others could run much higher. Will funds be made available for everyone? No. But, whether or not this turns into a crisis depends on the general health of the speculative markets. For the short-sighted traders, the release of the 45 billion euro aid package would likely be considered a bullish outcome – at the very least, it defers the immediacy of a collapse. And, though the future may look bleak, it is important to always look at it through the perspective of the investor and creditor.

Though the EU/IMF bailout effort holds the most potential over the market, there are more distinct threats to volatility through the week. At the top of list is Thursday’s ECB rate decision. It is difficult to imagine this event will be very market moving considering the UK election will be a distraction and policy officials won’t change their tune on interest rates until inflation perks up and financial stability firms. On the other hand, interest rate speculation is a sensitive subject. Should there be a suggestion of time frame in the commentary (near or distant) it could encourage the markets. Other indicators (i.e. regional PMI numbers, German industrial production, Euro Zone retail sales) pose only a modest threat to volatility. - JK

Japanese Yen May Weaken On Greece Resolution, Positive NFP’s

Fundamental Forecast for Japanese Yen: Neutral

- Bank of Japan leaves benchmark rate unchanged at 0.10%

- Consumer prices remain unchanged at -1.1% in March

- Retail trade unexpectedly rose by 0.8% beating estimates for a 0.6% decline.

The Japanese Yen ended the past week virtually flat as credit rating issues in Europe were offset by strong corporate earnings and continued signs that the global recovery is strengthening. The Greek aid package continues to be ironed out with European leaders hinting at a conclusion in the near future. Therefore, the news cycle from the region should continue to impact broader trends as was the case the past week when the S&P downgrades of Greece, Portugal and Spain sparked a bout of widespread risk aversion. The FOMC pledging to keep rates low for an “extended period” raised the outlook for earnings during a week where several blue chip names posted strong quarterly results.

The BoJ left their benchmark rate unchanged at 0.10% which was widely expected as deflation remains a concern. Indeed, consumer prices fell by 1.1% in March maintaining the pace from the month prior at a time when other countries are seeing inflation reach target levels. The central bank refrained from adding to their special monetary stimulus efforts, but is considering new efforts to boost the economy. The Bank of Japan said in its policy statement that it was looking into other "possible ways to support private financial institutions in terms of fund provisioning with a view to strengthening the foundations for economic growth." However, policy makers did alter their forecast for inflation and no expect core price to rise to 0.1% in 2011 versus a previous forecast of -0.2%. An unexpected jump in retail trade and continued growth in industrial production were encouraging signs that the economic recovery is on track.

Domestic fundamentals rarely have an impact on the currency’s price action which was the case last week in spite of several major releases. Therefore, with a relatively empty calendar it would be more prudent for traders to monitor the credit rating story in Europe and U.S. fundamentals which include the potentially broadly market moving non-farm payroll report. The U.S. economy is forecasted to have added another 189,000 jobs in April building upon the 162,000 added the month prior, the consecutive monthly gain would be the first since the end of 2007. A bullish labor report could send the USD/JPY above resistance at 94.70-38.2% Fibo of 110.70-84.82 where it has failed twice before. If that is the case then it would exposes upside potential to 97.75-50.0% Fibo and 8/7/09 high. Conversely, signs that the Greece’s troubles are spreading and a disappointing labor report could be a recipe for broad based risk aversion, which could generate yen support. - JR

British Pound Threatened on Uncertain UK Election Outcome

Fundamental Forecast for British Pound: Neutral

- UK House Prices Rise Least in Three Months, Says Hometrack
- British Pound Retreats as Home Loans Fall Short of Expectations
- Speculative Sentiment Points to British Pound Losses Ahead

The British Pound may see an early boost from a final Greek bailout agreement but the currency looks decidedly vulnerable ahead of Thursday’s UK general election as traders fret about the future of fiscal policy amid uncertainty at the polls.

The third televised contest between the candidates to take up the post of UK prime minister after Thursday’s general election has come and gone, and while this final round was broadly given to the Conservatives’ David Cameron, the clear winner of the UK’s first experiment with such debate was clearly the Liberal Democrats’ Nick Clegg. The charismatic leader managed to pull his party out of the shadow of its larger competitors and make the election a true three-horse race, meaning the seemingly inevitable downfall of current Labour PM Gordon Brown will not translate into a Tory victory by default. Indeed, the Lib Dems are all but tied with the Conservatives in the latest opinion polls, hinting the election may produce the first hung parliament since 1974 as neither party is able to secure a clear majority.

On balance, this is an ominous prospect for the British Pound. Markets prefer a Conservative victory, hoping Mr Cameron and company will make good on their promise to aggressively tackle the UK’s soaring budget deficit. The Lib Dems have not inspired such confidence, offering precious little in the way of details on how they would proceed on the matter. In any case, they too can’t hope for an outright majority and the prospect of a divided government incapable of charting a clear course for fiscal policy may prove bad enough to send Sterling lower in the election’s aftermath.

Elsewhere, the economic calendar seems relatively uneventful but risk sentiment may prove to be a factor early in the week, giving the Pound a boost if EU policymakers announce a finalized and expanded Greek bailout as expected over the weekend. Indeed, 21-day percent-change correlation studies between GBPUSD and the MSCI World Stock Index return a value of 0.88, the highest in nearly three months.

Source / Read more: DailyFX - British Pound Threatened on Uncertain UK Election Outcome http://www.dailyfx.com/forex/fundamental/forecast/weekly/gbp/2010-05-01-0402-British_Pound_Threatened_on_Uncertain.html#ixzz0mlouDj6M