Tuesday, January 25, 2011

London Session: A Pivotal Week For FX

The euro has had a mixed start to the morning. EURUSD was comfortably
above 1.3600 during the Asian session, but when European markets came
back to work after the weekend a sell-off started. The reason for this
was a report in the German press that quoted Eurogroup Chairman
Jean-Claude Juncker saying that European leaders had no intension of
boosting the size of the EFSF rescue fund. However, that wasn't
exactly what he meant: Juncker said that the fund will receive extra
collateral to allow it to lend to its full capacity EUR440bn,
currently it can lend less than EUR300bn in order to maintain its
triple A rating. So effectively, this move is an extension of the
current funds available. EURUSD seems to have found support at
1.3555/60 and may re-test 1.3600.

FX markets have essentially shrugged off political developments in
Europe's periphery. The collapse in the Irish government isn't
considered critical by the markets because all political parties bar
one very small party has agreed to pass the Finance Bill before the
upcoming general election. This is needed before EU/IMF bailout funds
are released to Dublin. Likewise, the Portuguese Presidential election
went off as expected with the incumbent winning the race. Although
sovereign risk fears have moderated in recent weeks, this hasn't been
reflected in bond yields. Portuguese 10-year bond yields remain
perilously close to the 7 per cent threshold that would require them
to apply for bailout funds. Instead the shift in sentiment has been
reflected in the single currency. There has been a sharp reversal in
EURUSD speculative positioning, with more traders going long the euro
last week.

There were a lot of euro-supportive comments from EU officials this
weekend. German Fin Min Schauble said that Germany wants to move
towards a permanent solution to the sovereign debt crisis in the
coming weeks. Likewise, ECB president Trichet said that monetary
policy and temporary support for peripheral nations are separate; this
suggests that monetary policy could be tightened at the same time as
more support for peripheral nations is implemented. This supports the
argument that the ECB may raise interest rates later this year to
combat inflationary pressures. Right now Germany's pledge to protect
the Eurozone coupled with a perceived hawkishness from the ECB is
driving euro strength.

This week is fairly data-light for the Euro-area, instead attention
will focus on the US and UK. Both countries report Q4 GDP, which will
be pivotal to determining interest rate expectations going forward.
There are also Bank of England minutes and a Federal Reserve meeting
that will give us more insight into the tone of debate at both central

Elsewhere, fourth quarter producer prices in Australia came in weaker
than expected, which could weigh on Tuesday's CPI data. It appears
that the inflation profile for Australia has shifted, which reduces
the pressure on the RBA to hike rates. This is weighing on AUDUSD and
the crosses. It could be hard for the Aussie to break above parity any
time soon if inflation starts to moderate.

Look out for the Davos meeting this week. It usually contains
interesting commentary rather than market-moving events, but it has
some extremely high profile speakers and the markets will be taking
note. It's also still earnings season. McDonalds and Texas Instruments
report results today, while Yahoo, Verizon and Johnson & Johnson are
tomorrow's highlights. Stocks have started the week fairly flat, and
with the dearth of US data releases in the next couple of days all
eyes will be on Wednesday's FOMC meeting and Q4 GDP on Friday, which
will be a major determinant of dollar direction going forward.
Source: ActionForex.Com

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