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Saturday June 20, 2009 - 11:32:31 GMT
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Forex Blog - Market Week Wrap-up

Market Week Wrap-up

- Trading was lackluster and choppy as the DJIA lost ground on the week for the first time in a month and commentators speculate whether the rally was growing long in the tooth. Recall that the DJIA returned to positive territory YTD for the first time since early January just last week. Green shoots were observed in positive German ZEW sentiment and the Philly Fed business outlook readings, but they didn't prove to move markets higher. Instead the spotlight was on hefty new government programs to address health care and overhaul financial market regulations. And although bullish commentators have not vanished from the scene, pessimistic voices seemed stronger than ever. Goldman Sachs Chief Economist said he still sees the potential for a market correction over next several weeks, and PIMCO's El-Erian insisted it is wrong to assume return of "business as usual" despite the recent stability. On the bright side, reports emerged this week that GM is likely to emerge from bankruptcy a month ahead of schedule, by mid July. For the week, the S&P 500 fell 2.6%, the DJIA dropped 3% and the Nasdaq Composite slipped 1.7%.

- Monday's disappointing June Empire Manufacturing index (-9.41 v -4.60e) spooked investors, as the survey of manufacturing conditions in the North East indicated much steeper declines than expected instead of another sign of improvement. The Philadelphia Fed Index on Thursday provided a stark contrast to the earlier data, with its survey of business conditions dramatically better than expected (-2.2 V -17.0e). The May housing starts and buildings permits data came in slightly above estimates, rising at the fastest rate in three months. On Wednesday the May Consumer Price Index was barely positive on a m/m basis, while the y/y figure showed the biggest annual drop in the series since 1950. The data provides evidence that the recession is keeping inflation in check and could raise concerns about deflation, depending on one's point of view. Initial jobless claims remained above the 600K level for the 20th week in a row, while the continuing claims fell on a w/w basis for the first time in six months. Some commentators observed that the improvement in the latter might have had more to do with benefits running out for long-term unemployed than any uptick in hiring, however.

- The Obama Administration rolled out a major overhaul of the
US financial regulatory system this week. Treasury Secretary Geithner and White House advisor Larry Summers primed the pump on Monday, releasing some details of the proposal in a Washington Post editorial piece. Then on Wednesday, President Obama officially announced the new program in a policy speech, noting that his proposals aim for "careful balance" and that scrapping the old regulatory system would be a "mistake." The salient points of the plan foresee the regulation of all derivatives contracts, requiring originators to retain interests in asset-backed securities ("skin in the game"). Systemically important firms will face "stringent" supervision by the Federal Reserve and a new Council of Regulators with broad responsibility for policing the entire financial system for risky products. A new consumer financial protection agency would be created to set rules for mortgage lending, hedge funds will be required to register with the SEC and the Office of Thrift Supervision would be dismantled under the plan. Congress will begin digesting the plan in July, although key player Rep. Barney Frank said that he does not expect Congress to finish its work on the legislation before the end of 2009. Note that across the pond, EU leaders agreed to establish new pan-European financial watchdogs, with some limited authority over UK affairs.

- TARP repayments, master trust data and multiple S&P ratings downgrades, not to mention the potential for more regulation, have kept pressure on financial names this week. The ten financial institutions that won approval to repay TARP last week moved to return the funds to the Treasury on Wednesday. Monthly master trust data from the major credit card issuers showed a broad trend toward higher charge offs but lower overall delinquency rates, although it is worth noting that delinquency rates have moved lower in part due to recent accounting rule changes. S&P downgraded ratings and outlook on 22
US banking names on Wednesday, noting that operating conditions for the industry are becoming less favorable, characterized by greater volatility in financial markets during credit cycles and tighter regulatory supervision. The downgrades encompassed numerous super-regional banks, including such institutions as Wells Fargo, Fifth Third, BB&T, KeyCorp, and Capital One.

- Earnings from FedEx and monthly order data from Caterpillar provided ammunition for economic recovery skeptics. While FedEx's earnings soundly beat expectations, its guidance for next quarter was substantially below analysts' forecasts, as the recent run-up in fuel prices would have a significant negative impact (several airlines echoed concerns about rising fuel costs this week, including US Airways and Lufthansa). Caterpillar's three-month retail sales in
North America fell 57%, compared with declines of 51% and 41% in April and March, respectively.

- Potash names had their growth potential questioned, after German fertilizer manufacturer K+S slashed its 2009 sales forecast to 4-4.5M tons from 6M due to weak demand. The company said there were no signs of recovery in European demand, putting pressure on prices. UBS shined some light on the solar industry in a sector report, raising its 2010 global demand estimates thanks to the emerging recovery in
China and the US, but also lowering its solar module price estimates to near marginal cost.

- US Treasury prices started off on a firmer footing after a wild few weeks in bond trading, featuring a surge in yields to 8-month highs. With the G8 and BRIC meetings thoroughly telegraphed to markets and offering little in the way of surprises, as well as no coupon supply scheduled for auction, US yields moved lower for much of the week. Note also that S&P said the
US government's AAA rating was unlikely to change anytime soon. December fed fund futures have seen the odds of a rate hike by year's end move back below 50% for the first time since the release of May non-farm payrolls.

- The stronger than expected Philly Fed reading as well as the first week-over-week decrease in continuing jobless claims since January set a floor in rates on Thursday, when afternoon trade saw prices come under further pressure from mortgage-related selling and the US Treasury's announcement of $104B in supply. This amount surprised some observers, given the increase in the size of the 5- and 7-year note auctions. Bond prices opened lower on Friday but quickly reversed course, buoyed by some risk aversion flows after Moody's placed California's A2 rating on watch for a possible downgrade. Bids came into the long end of the curve and the benchmark yield stabilized just above 3.75% while the long bond is gravitating towards 3.5% as the week came to a close. Outside of the coupon supply traders are also looking ahead to the FOMC rate announcement and Fed Chairman Bernanke's testimony before Congress regarding the BofA/Merrill deal. Both are expected in the middle of next week.

- In currencies, the price action was choppy but muted as EUR/USD bounced around in a narrow 250-pip range. Persistent reserve currency comments aimed at the dollar made USD forex trading a game of "headline roulette" as government officials continued to express their opinions on the topic. There were plenty of cautious comments on economic conditions from officials and central bankers throughout the week, but their impact paled in comparison to the EU Summit draft statement on Friday stating the Euro Zone economy was on course for a "sustainable recovery" and reports that the IMF would raise its 2010 global growth forecast to +2.4% from +1.7% prior.

- The reserve currency issue remained in headlines all week. Early on a Kremlin aide noted that
Brazil, Russia, India and China would not discuss reserve currencies at the inaugural BRIC summit on Tuesday. But the vocal Russian dollar reserve skeptics evidently couldn't contain themselves, and in the end the BRIC nations issued a vaguely worded communiqué which called for a "diversified, stable, predictable currency system." IMF Chief Strauss-Kahn insisted that dollar was not weak and that the market has correctly valued the dollar. The IMF's Lipsky said the dollar would remain the central global reserve currency for a long time. The ECB's Constancio warned there were problems with the USD's international role and acknowledged the recent discussions between China and Russia about developing a new reserve currency. Actions speak louder than words, and the April US TIC data demonstrated falling global demand for US financial assets, with China, Japan, Brazil and Russia seen trimming their treasury holdings.

- Economic data around the world continues to paint a mixed picture of the global economy. In
Germany, the ZEW Economic Sentiment survey registered its highest reading since May 2006 while the DIHK Business Survey cuts its forecast for 2009 German GDP to -6.0% from -3.0%. In the US, the initial jobless claims remained above the 600K level, while continuing claims declined for the first time in months (and made the largest weekly decline since Nov 2001), although some commentators believe the improvement had more to do with benefits running out for long-term unemployed rather than any uptick in hiring. The World Bank raised China's 2009 GDP forecast to 7.2% from 6.5%, although former PBoC adviser Li Yang said he expects the global economy needs at least five years to fully recover from the recession. In addition, China's Minmetals said Chinese commodities demand will be flat for the next one or two years.

- In
Europe the Maastrict Stability Pact issue is simmering as the recession adversely impacts the finances of member states. The French budget minister said his country's 2009 deficit-to-GDP ratio could hit 6%, which is well above the 3% level permitted by the pact. The German Finance Minister said his country's deficit could exceed the EU limit of 3% of GDP through 2012. The 2010 Netherlands budget deficit is forecasted at 6.7%. ECB's Gonzales-Paramo insisted that the current Maastrict Stability Pact has the flexibility it needs to work and that its rules should not be changed.

- The Swiss Franc was in focus late in the week on rumors of another round of intervention. The Swiss Central Bank Chief Roth declared that EUR/CHF volatility had diminished considerably and that the franc's gains were over, sending the cross to toward 1.5000, a level that has not been violated since the March 12th intervention. This declaration of victory prompted dealers to wonder whether 1.50 was a line in the sand for additional intervention. Many players noted that there were significant long EUR/CHF positions heading into Thursday's SNB monetary policy decision. The Swiss National Bank's
Jordan said the bank has no fixed FX threshold and acknowledged some "nervous euro longs." The currency intervention rumors surfaced on Thursday, with the Bank of International Settlements (BIS) cited as the intermediary, sending EUR/CHF up to 1.5140, although the BIS, SNB and the ECB had "no comment" on whether intervention had actually occurred. Dealers are now focusing on the key resistance level of 1.5230, which corresponds to the downtrend line from the 1.6330 highs made in late July 2008.

- EUR/USD began the week on a firm tone, testing key daily support around 1.3740, before moving quickly back over the 1.38 pivot level and toward 1.40 after a Kremlin aide said Russian President Medvedev would raise the reserve currency issue at the BRIC summit after all. Range trading set in as various central banks maneuvered around the issue, with
China noting it wants a stable dollar while Russia reiterated the dollar would lose its position as the dominant reserve currency. Asian sovereign names were allegedly offering euros around 1.40 while Eastern European names were aggressive buyers of the euro around 1.3800. The JPY exhibited some strength during the week, with dealers fixing on news that Japan's public pension fund (the world's largest) might sell JGBs to cover payments. Commentators say this could signal the beginning of the end of Japan as a capital exporter. GBP/USD maintained a firm tone against the major pairs thanks to higher CPI and RPI inflation data, but price action in the cross was choppy and erratic at times. EUR/GBP tested 0.8440 for fresh six-month lows. Down under, the RBA June minutes stated that AUD strength has lessened the impact of stimulus measures.

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