Dollar mixed as hopes for Jackson Hole solution fade

IB FX Brief

Thursday August 25, 2011

Two stimulus-driven stories are shaping up events on Wall Street on the eve of Bernanke’s Jackson Hole address. “Don’t expect Bernanke to offer more support for the economy,” is the warning from former Soros advisor, Richard Medley. He says that rear-view inflation resulting from the first two waves of quantitative easing have created resistance among FOMC members to doing more. But better-targeted relief could be on its way according to a New York Times article characterizing refinancing for millions of homeowners with mortgages backed by government agencies Fannie Mae and Freddie Mac. The loose talk is that qualifying borrowers could have mortgage rates reset to 4% freeing up more in terms of disposable income.    

U.S. Dollar – Following an earlier durable goods report that snapped back at a 4% clip the move higher in the dollar for lesser fears over the health of the economy was unmistakable. In one fell swoop it appeared that the likelihood of a third-round of quantitative easing was scotched. In reality the economic scorecard has been clouded more than ever by the latest market meltdown. Ahead of the Wyoming symposium of central bankers analysts are offering signs of health in the shape of strong trucking volumes around the economy, higher tax receipts for the government, firmer inflation expectations as well as a diminished likelihood of deflation. The dollar ought to benefit from hesitation from the Fed, but the reality is that Bernanke will reinforce his pledge to stand by ready, willing and able. The dollar’s strength yesterday may be all we get out of this lower likelihood of further Fed action.

Japanese yen – The dollar strengthened to its strongest level in two weeks rising to ¥77.21 as fears over the health of the global economy receded. A former chief analyst from the central bank and now Goldman economist warned the Bank of Japan to be prepared to take evasive action in the event the Fed does announce further stimulus measures. Naohiko Baba told Bloomberg television that the two-month wait following last year’s symposium before the central bank intervened to counter yen strength was badly thought out. The perceived lower likelihood of QE3 has weakened demand for the yen. The euro also rose to buy ¥111.17.          

Euro – Greek bond yields remained lofty signaling concerns that a default might be triggered owing to the collateral demands from Finland. Solvency concerns are growing, which explains why several of the region’s governments have lined-up behind Finland to demand collateral in exchange for bearing the risk of holding Greek bonds. Germany says that no one member should be privileged over any other on this matter and that no collateral should be held. But the single currency remained firm although it has backed further away from overhead resistance at $1.4500 over the past 24 hours. This morning the unit buys $1.4420 against the dollar.      
 
British pound – Trade group CBI said that retail sales fell to the lowest in 15 months while an ugly Nationwide consumer confidence survey fell to its lowest reading in three months. The pound has subsequently recoiled from strength earlier in the week shown against the dollar, while it weakened towards a two-week low per euro at 88.10 pence. The Nationwide survey was especially cautious and showed an increasingly pessimistic consumer. Homeowners predicted a sharper fall over the next six months in the home values weighing on current financial decisions. The mortgage lender predicted worse data my consequently ensue. Meanwhile fewer purchases of clothing and household items resulting from a pace of inflation twice that of wage growth dragged retail sales in to the gutter said the CBI. Reported inventories relative to expected sales rose to the highest in three months at a time when order volumes fell at the fastest pace since May 2010. The pound recently traded at $1.6366.

Aussie dollar – Trading in the Aussie has become a delicate art. The unit remains commodity-price sensitive but its make-up has changed significantly on account of what the global growth outlook means for monetary policy. The yield curve was turned upside down by the speed of events during the past month thus reducing the relative yield appeal of the unit. Overnight the Aussie fell in response to weakness in German sentiment measures rather than warming on account of a sharp recovery in U.S. stocks for a second day. The fact that Bernanke might choose to stand by and watch means that the Aussie will essentially have to go it alone. Without hopes of a speedier recovery spurred on by the Fed, hopes for domestic monetary easing could quickly become a reality. The Aussie staged a rebound in New York as the diminished hopes surrounding Bernanke translated in to a relief rally aimed at recently depressed units. It recently bought $1.0481 U.S. cents.      

Canadian dollar – In the absence of fresh data the Canadian dollar also benefitted from firmer appetite towards risk and made a gain against the dollar to $1.0139 U.S. cents. Unlike its Australian counterpart the Canadian unit is unlikely to suffer from any change in monetary policy. Of course the unit is more sensitive to events in the world’s leading economy while the Aussie more so to Asian growth. Glimmers of hope surrounding the U.S. economy are currently worth more than firmer Asian evidence.    

Andrew Wilkinson                                                                   
Senior Market Analyst                                                               ibanalyst@interactivebrokers.com