There was some degree of dollar buying in a flight to safety as European stocks fell on fears of a deeper global downturn, despite the sharp downward revision to US Q4 GDP. But on the whole, the US dollar continued to be fairly range bound against the euro, moving within an intra-week high of 1.2992 and a low of 1.2605, ending the week at 1.2645. The pound fell by 0.5% to 1.4225 against the dollar and by 0.6% to 1.1250 against the euro. The yen was again sold against the dollar as well as against the euro as fears over exports are compounding the view that the yen is losing its 'safe haven' status. The €/Swiss franc gyrated around the weekly average of 1.4860. The Swedish krona fell to a record low against the euro as Q4 GDP contracted by the largest amount since 1940.
Latin America currencies generally strengthened, while the Asian currencies, especially the South Korean won and the Indian rupee, were the worst weekly performers. The World Bank, the European Bank for Reconstruction and Development and the European Investment Bank may provide up to €25bn to help the East European region stave off financial crisis, but the currencies remain prone to weakness.
The US dollar performed better than could be expected given the third bailout of Citgroup, President Obama's budget announcement, which showed the US deficit quadrupling to $1,750bn, and a very negative stream of economic data affecting the US economy itself. Data included a fall in the US consumer confidence index in February to the lowest level since records began. Also, existing and new home sales deteriorated by much more than had been expected and the scale of the downward revision to Q4 GDP to -6.2% annualised from -3.8% in the first estimate came as a surprise. The escalation in initial jobless claims is another sign that despite a plethora of stimulus measures the US economic situation is worsening.
Sterling weakened against the US dollar and euro this week, but rose against other majors including the Japanese yen, the Swedish krona and the Norwegian krone. Evidence is growing that the Bank of England may soon move to quantitative easing in an effort to boost money supply to households and non-financial companies in order to stimulate the economy. With this in mind, the BoE policy meeting next Thursday should see official interest rates lowered from 1% to 0.5%, while continuing announcements affecting the banking industry made for an active week for sterling.
The euro depreciated against US dollar, the Swiss franc and the Australian dollar, but appreciated against other G10 currencies - the pound, the Japanese yen and the Swedish & Norwegian currencies. Eurozone economic data this week have been poor, including the February German IFO index of business confidence, which fell to the lowest level in 26 years and, in addition, a new alltime low for euro zone consumer confidence. CPI inflation, unemployment and survey data suggest that the ECB will reduce its 2009 GDP and inflation forecast, as well as lowering interest rates by 0.5% to 1.5%, at its key policy meeting next week.
Interest rate market review - bonds, cash and swaps
Weak US economic data failed to significantly dent market interest rates this week. US bond yields rose, especially short to medium-dated yields, as the Treasury sold $94bn of paper to fund the ballooning fiscal deficit. Moreover, President Obama also announced $750bn of new aid to the financial sector. Fed Chairman Bernanke's comment that he does not see the need for full nationalisation of banks also supported equities and bond yields. UK and German bond yields rose in sympathy with the US, but shortdated yields remained under pressure in anticipation of interest rate decisions by the Bank of England and ECB next week.
In the UK, some of the economic data last week were less negative than expected, but short-dated bond yields still declined as investors expect the Bank of England to cut interest rates next week below the current 1% level. Governor Mervyn King also reiterated that quantitative easing would start in the coming months. The second estimate of UK GDP was unrevised at -1.5%q/q, in contrast with expectations of a small downward revision, with the first expenditure breakdown showing that growth was dragged lower by destocking, hence the economy is likely to contract further but at a moderating pace. Nevertheless, we still expect growth to slump more than 3% this year. Other data also provided some encouragement, with GfK consumer confidence rising unexpectedly to -35 and the CBI distributive trades survey showing an unexpected improvement in retail activity in February. BBA mortgage approvals figures also rose slightly in January. UK 2yr bond yields closed near the week's lows at 1.44% (-4bps), while 10yr yields peaked at 3.65% and ended the week at 3.62% (+20bps), as FTSE-100 index fell briefly below 3,800. 5yr swaps rose 10bps to 3.13%.
In the euro area, short-dated yields remained near cyclical lows, as the ECB is widely expected to cut interest rates next week. The data flow from the euro zone was a little mixed, but the pressure on the ECB to pursue unconventional policy measures, such as asset purchases and quantitative easing, is still growing. Economic data showed a slight fall in the German Ifo business survey to 82.6 from 83, but it essentially remained near weak levels. The EU Commission's survey also showed further deterioration in euro zone consumer and industrial confidence. Further, euro zone M3 supply growth continued to decelerate, while the first breakdown of Q4 German GDP showed a biggerthan- expected drop in exports. There were some moderately positive data, as German GfK consumer confidence rose unexpectedly and unemployment rose less than expected. On the inflation front, final euro zone CPI was confirmed at 1.1% for January and preliminary February CPI figures from Germany were higher than expected. German 2yr bond yields were little changed at 1.31% and 10yr yields rose to as high as 3.14%, before closing at 3.10% (+9bps).
Supply concerns supported US bond yields in the past week, outweighing the impact of weak economic data, as the markets digested $94bn of paper and President Obama predicted the budget deficit would rise to $1.75tn (12% of GDP) in the current fiscal year. Meanwhile, Fed Chairman Bernanke in his testimony to Congress this week played down the likelihood of full bank nationalisations and he also expected the economy to recover in 2010, though 'full' recovery may take 2-3 years. However, there was a further weak slate of economic statistics, including a 10.2% fall in new home sales to only 309k, a 5.2% decline in durable goods orders and a rise in jobless claims to 667k, the latter suggesting another sharp fall in non-farm payrolls due next week. The second estimate of Q4 GDP was revised down more than expected to -6.2%q/q annualised, the biggest quarterly contraction since 1982. US 2yr bond yields peaked at 1.11%, but ended at 1.03% (+9bps) following the weak GDP release, while 10yr yields closed just above 3%, up 27bps at 3.01%.
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