JusT-LikE-ThaT: XE.com - Currency Market Analysis

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Currency Market Analysis by XE.com In Partnership with Custom House

Risk Aversion Continues to Course Through Markets

Market Highlights:

Market Takes Time to Truly Digest Fed Moves
FX Markets and Data

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Market Takes Time to Truly Digest Fed Moves

Equity markets suffered through a bloodbath on Wednesday with the Dow and S&P down 2.49% and 2.82% respectively with most other bourses following in a similar vein. Things haven't improved a great deal overnight with Asia effectively shedding close to another percent in value as the market continues to digest the latest moves from the Federal Open Market Committee announced Tuesday. Of course, the big policy announcement was that the Fed would continue their program of quantitative easing by rolling over the bulk of the debt instruments at expiry that have led to a record expansion of the institution's balance sheet. While this move was seen as a positive for markets, particularly equities, initially; that the Fed was committed to maintaining liquidity in the marketplace and would do what is required to ensure adequate stimulus for a floundering U.S., if not global economic recovery, the mood has quickly soured. In making the decision to deliver additional stimulus and reversing its intended policy of not rolling over its active fixed income investments, the Fed also signalled that the economy is in fact slowing materially and that the growth outlook is most assuredly beginning to sour. While the market initially focused on the Fed's desire to deliver a remedy for what ails us economically, economic participants are now more concerned with the disease itself and are shedding risk in an environment where even the Fed believes that the U.S. recovery at the very least, if not the world's, is being threatened by deflationary forces.

Deflation is perhaps the scariest situation of all for a central banker. While individual consumers may not be adverse to a softening of prices in general, the challenge is that our collective actions lead to a market where everyone effectively waits for prices to fall before stepping in to buy. With the broader economy sitting on its hands and wallets, prices do in fact fall, putting pressure on firms to slash margins to attract buyers. Shrinking margins and corporate profitability adversely impacts corporate investment and hiring decisions, which in turn further reduces aggregate economic demand and prices fall further still, creating a death spiral of downward price pressure in an economy. The scenario just described is Mr. Bernanke's worst nightmare and is certainly something that the Fed will employ all of its numerous powers to avoid. While a deflationary episode is certainly not imminent, there are many analysts who feel rather strongly that the risks of just such an occurrence, an experience very similar to that of Japan for the better part of the last generation, are building significantly.

FX Markets and Data

The USD index is trading higher by nearly half a percent again today to an 82.65 price level, racking up big gains against everything but the CAD, which has held relatively firm after yesterday's big decline despite continued losses in equity and commodity markets. The yen is trading a touch weaker against the Big Dollar, weighed down by rather disappointing industrial production and consumer confidence figures. The EUR is also trading heavy, facing a significantly offered tone as traders evaluate today's release of rather soft European industrial production and Italian trade balance results. The pound sterling has also sold off rather aggressively overnight given the broader market without being guided lower by any particular domestic data releases. The Antipodeans are also trading heavy from the market's general appetite for risk despite a slightly better than expected headline employment reading in Oz overnight. That said, the details of the report were less than kind to those bullish on the Aussie in that the bulk of job gains were part-time in nature. That said, while the unemployment rate did tick up to 5.3% from 5.1%, an increase in the labour participation rate isn't necessarily a bad thing for the broader economy in the long run.

The CRB index of commodity prices is trading roughly 0.40% percent lower despite a rather robust appetite for gold given the increase in risk averse market sentiment. The precious metal has pushed up close to $25 from yesterday's close and is presently trading around $1215. The pop in gold prices hasn't helped the currencies of gold producing nations on the day however, as markets focus more on the reasons for the decline rather than the impacts of the price action itself.

By Mark Frey, Regional Director for Corporate Canada,
Custom House

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