[Dan]

Although the US and global economy remain very weak, a recent up-tick in some leading indicator data has raised hopes that the worst may have now passed. The idea that a slowing in the rate of contraction will soon give way to actual recovery in activity has taken hold. This has prompted capital re-allocations away from relatively defensive US markets (both equity and fixed income) to emerging markets and pushed commodity prices higher (a negative terms of trade shock). Consequently, the USD has weakened sharply.

What is driving the USD?
The FX market has been subject to significant swings over the last eight months as the focus of investors has flipped from the threat of debt deflation – which creates safe-haven and de-leveraging related demand for USD – to the potentially inflationary consequences of the aggressive policy responses aimed at tackling the economic fallout of the financial crisis. Policy responses in the US
have been seen by many investors as jeopardizing both long-term price stability and fiscal sustainability.

[Jason_Lim]

CAD Forecast - Some analysts now target a move to parity late this year and expect the CAD to maintain “equality” with the USD through the early part of 2010 before easing modestly late next year. To some extent, this forecast reflects the view that the Canadian situation is relatively attractive from a fundamental point of view.

Australian Dollar: AUD is not expected to continue trading at current levels. The improving outlook for inflation is expected to prompt RBA easing in the third quarter, pushing the AUD back to $US0.76, before expectations of a global recovery and higher interest rates generate outperformance, particularly in the second half of next year.

New Zealand Dollar: On the poor fundamental outlook (large current account deficit, lower dairy prices, and a potential ratings downgrade), some continue to see the NZD underperforming the CAD and AUD until at least the end of the year. Traders do not expect the NZD to trade convincingly above $US0.60 until early-mid next year.

USD – For the last several months we’ve grown used to the idea that bad economic data, weaker equities, and any bad news whatsoever leads to a stronger USD. But now that the deleveraging process has largely run its course, and investors no longer fear an outright collapse of the financial system, the USD will soon return to more “normal” relationships with other financial instruments as well as the economic data.