Forex Investment and Currency Trading

Price action in the majors has shifted over the last week in a subtle, but important way. Previously, the USD seemed to benefit from all news, positive or negative. This was on the view that growth deceleration was rotating out of the US and into the rest of the world. While the market was looking for US rate hikes, it was increasingly rate cuts elsewhere.

However, gradually this week, the USD has been trading in less confident manner. On Thursday, the second take of US Q2 GDP came out at 3.3% q/q annualised, much higher than the consensus market forecast of 2.7% q/q and almost double the first take of 1.9%. In the last few weeks, this would have pushed the USD sharply higher. However, overnight, the USD made initial gains on the number, but was unable to sustain those and has since stabilised again. With investors returning from August
vacations, there has been renewed focus on fundamental dynamics. Granted, the economic situation appears to be worsening around the world, but it is still deteriorating in the US itself. Crucially, US interest rate expectations as reflected by the market appear to have stabilised.

With the housing market still in free-fall and the banking system still extremely fragile, market sees little prospect of the Fed hiking rates this year – or through H1-09. In fact that the fed is more likely to cut rates in H1-09 due to demand failure, but even if it’s wrong the risk to the call is of the Fed doing nothing. The market appears to be gradually turning to that view – the Fed may talk tough on inflation, but at the end of the day is not going to hike. In this context, there is a tactical opportunity for USD shorts to be established as rate hike expectations are reduced and attention switches back to bearish US market dynamics. More strategically, the next big move in the USD remains higher as global money supply growth continues to decelerate.

In terms of crosses, pay close attention to AUD-NZD and EUR-JPY. Looking for further clues as to Reserve Bank of Australia (RBA) and Reserve Bank of New Zealand (RBNZ) monetary policy from here to determine which way this cross is likely to trade subsequently. On balance, the bias is to be selling into rallies given the massive technical break lower and the fact that New Zealand fiscal policy is being loosened, while Australian fiscal policy is being tightened. On EUR-JPY, the major, multi-year-up-trend appears to be over and the only question is what levels to sell at. Anywhere in the 163-164 area looks a good sell?!