Forex Investment and Currency Trading

The dollar was mixed against the majors, weak against GBP, AUD, NZD, but materially strong vs. JPY overnight, as the market prepared for the payrolls number which came in this morning at -598K vs. expectations of -540K. The labour market always tends to be the last are to register any form of economic improvement. As such, while leading indicators may suggest that the rate of contraction in economies is starting to ease from Q4’s precipitous pace, it is not completely unreasonable to see a continuing drop in payrolls, and the market will likely eventually shrug off the worse data. The size of Fed’s balance sheet declined for the 5th straight week and is now at the lowest level since late October 2008. The decline was entirely accounted for by a decline in FX swaps, reflecting the continuing “normalization” in foreign demand for USD funding. Fed’s Stern is “guardedly optimistic that many pieces are now in place to rebuild liquidity and to contribute to improvement in business activity.”

The euro was mixed over night, which was not helped by a much weaker German industrial production report, which came in at -4.6% vs consensus of -2.5%. European equities were higher, however bond futures rose despite equity market gains. Euro’s failure to sustain a rally on the more positive mood in equities is troubling, reflecting the cratering in much of European business data and the continued repricing of ECB expectations, which has caused short rate spreads vs. USD to collapse.

GBP is stronger again this morning, as it enjoys an almost unbroken string of positive data surprises over the past tow weeks - short covering has further to run. Manufacturing production is weaker than expected falling 2.2%. PPI is higher both in input 1.5% and output 0.1% terms. GBP trading will focus on US markets today ahead of the weekend.

JPY lost ground in European trading session as equities push higher. December leading indicators were slightly better than consensus at 79.8. Moody’s downgraded Toyota to Aa1 from Aaa due to the rapid drop in sales and profitability. BoJ’s Shirakawa said, “we see Japanese economic conditions as being very severe.” Finance minister Nakagawa says “government is not considering printing money.” Persisting strength in equities markets will cause the yen to weaken further.

AUD and NZD were strong performers overnight, set by the tone in European equities. RBA downgraded its growth and inflation forecasts in the quarterly monetary policy statement (2009 GDP 0.25% vs 1.5%, CPI 2.5% vs 3.5%). As the tone was almost unchanged from the statement following the rate announcement on Tuesday, market continues to expect the RBA to deliver a final 50bp cut in March.

CAD was weaker overnight as the drop in commodities pushed the currency down even as its US counterpart showed broad-based weakness. Change in unemployment came in at a record -129K compared with expectations of -40K and prior reading of -34K. Combined with similar dire news from the US, CAD will likely continue to stay under pressure.

Mexico’s central bank intervened in the foreign exchange market for a second straight day yesterday, boosting the peso currency after it was hammered to a record low this week amid fears the local economy is heading into recession. The central bank and Finance Ministry later confirmed the intervention in a statement issues after the local market’s close. The central bank surprised traders by intervening on Wednesday after fears the US downturn is driving Mexico into recession sent the peso tumbling to its weakest level since new pesos were introduced in 1993. The currency has lost about a quarter of its value against the dollar in the past five months, making it the worst performer among major currencies since the global economic crisis deepened late last year. This week’s surprise move was Mexico’s most direct intervention since 1998, although the bank has been auctioning dollars in recent months to soften the peso’s fall. BRL strengthened overnight with the positive sentiment set by European equities.

Commodities Update
Crude oil fell below $40/barrel on signs that OPEC’s announced cut was stalled. Investors are speculating that the drop in global demand will continue to weigh on crude prices. Gold was almost flat over night, with no significant changes in risk aversion and mixed dollar strength.