Forex Market Outlook 10/06/11
So far the news of the morning is that the Bank of England increased the size of its asset purchase program by 75 billion, pushing the total bond buying to 275 billion. While they kept interest rates unchanged, this sent the Pound plummeting lower 200 pips. The Central Bank cited severe strains in the funding market and maintained that inflation would undershoot the 2% inflation target in the medium term.
I suppose it would be more helpful if they identified what the medium term is, as inflation has stubbornly remained above 4% much to their chagrin. So I'm not certain how they think it will subside, and it appears as though they are content to let their citizens suffer through higher prices.
The ECB rate decision also came out and produced no change to official ECB rate policy, so now the market is waiting on the ECB press conference where Jean-Claude Trichet will speak for the last time as head of the ECB. The markets are hoping that he will offer some sort of hope that EU leaders are nearing a solution for the debt crisis. The ECB needs to go into "cheerleader mode" between now and when a solution is actually offered, but most think the perpetuation of "can-kicking" will continue. There is a meeting of EU leaders and a G-20 meeting on tap in the next few weeks.
Other than those two major events, the negative economic data from these two regions had little effect as UK home prices fell more than expected and German factory orders showed a decline vs. an expected no-change.
Initial jobless claims here in the US came in slightly better than expected, but still over 400K. While it is a good thing that it is not moving in the wrong direction, it is certainly not getting significantly better.
Tomorrow's Non-Farm Payrolls report will give us a better idea of where the economy is headed but I think more importantly it will let us know when or if Bernanke will be adding more monetary easing to the economy.
Between now and then, the Bank of Japan will have its rate decision in the overnight session and while they are not expected to change policy, don't be surprised if they try to jaw-bone the Yen lower as it is above 10-year highs vs. Euro and Pound.
So far Trichet hasn't said anything to disrupt the markets any further today, and the Dollar strength that we saw earlier on the Pound and Euro sell-off is abating, which is helping equity markets move higher.
There is going to have to a point where the "risk on, risk off" trade decouples and the correlations break down as US dollar strength should not be an automatic sell in risk assets, especially if that strength occurs because of individual currency weakness.
Today's action reminds us that these correlations are still in effect and the fact that the BOE wants to encourage inflation through a weakening of the Pound should have little effect on US stocks. Yet the markets have become so entrenched in the risk trade that it has a hard time differentiating between event risk and individual currency risk.
The market is never wrong; however in this case it is. While we know about the global economic slowdown, stock valuations right now are very compelling, especially those with high dividend yields. While the Euro debt crisis poses a major threat to global economic stability, an event like the BOE increasing quantitative easing should not.
Yet markets have this "all or nothing" mentality where a rising tide lifts all ships or the baby gets thrown out with the bathwater. How's that for coming market metaphors?
But seriously, we may see some further market selling as the US session unfolds, but I believe that it is not warranted (unless Trichet says something dumb) as tomorrow's NFP is likely to increase the chances that Bernanke will act.
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