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Friday September 14, 2007 - 16:20:46 GMT
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Forex Research - FX Briefing 14 September 2007

FX Briefing 14 September 2007



·        Weak Japanese GDP growth and Abe’s resignation put yen under pressure

·        Euro hits all-time high on expectations of narrowing interest rate differential to US


Euro-yen is this week’s winner

The release of the US labour market report for August showing that employment had declined for the first time in four years, put the dollar under tremendous pressure. Whereas EUR-USD shot up by more than one big figure to over 1.38, USD-JPY tumbled more than two JPY at the beginning of the week to below 113. During the course of the week, the euro’s appreciation versus the dollar accelerated, and on Thursday, EUR-USD hit a fresh all-time high of 1.3928. In contrast, the yen’s substantial gains started crumbling rapidly. Towards the end of the week, USD-JPY is trading slightly below 115 again, close to its level before the US labour market data were released. Thus, despite EUR-USD being in the headlines, the real winner this week is EUR-JPY, which at times shot over 160.


One reason for the euro’s strength can be found in the US. The Fed is talking openly about downside risks to growth, the US Treasury Secretary is warning that the credit market crisis will take longer to resolve. Thus markets are no longer wondering whether interest rates will be cut at the next FOMC meeting, but only by how much. Since the release of the labour market report, most market participants seem to be expecting a 50 basis point cut on 18 September. Overall, markets are pricing in fed fund rate cuts to 4.25% by the middle of 2008. On the other hand, the ECB is expected to leave interest rates more or less unchanged. Against this backdrop, markets are expecting the interest rate differential between money markets in the US and the eurozone, currently about 100 basis points for 3- month loans, to shrink to under 50 basis points in December and to 25 basis points next June.


It is hard to understand why equity markets, at least the European ones, are still so robust. Over the last few weeks, the economic outlook, as far as growth and M&A activities are concerned, has changed significantly. Nevertheless, equities have been developing sideways since the end of July. With regard to US equities, it can at least be argued that rapid monetary policy aid and the depreciation of the dollar are having a positive impact on companies’ prospects. This does not apply to European companies: financing costs are rising due to the credit crisis, and the appreciation of the euro is reducing competitiveness and to some extent having a negative effect on companies’ results.


Despite widespread expectations of a US interest rate cut, USD-JPY only weakened for a short time. The news from Japan was the main reason for this. The downward revision of Q2 GDP growth from a meagre 0.1% qoq to –0.3% is probably an indication that the Bank of Japan will not be able to maintain its growth forecast for the fiscal year 2007/08. Even on the assumption of the next three quarters developing favourably, growth is not likely to exceed 1.5%. However, the international environment has become more complex, and the yen has strengthened. The risks are therefore rather on the downside. In its monthly report for September, the government also acknowledged weaknesses, particularly in corporate investment. Thus we are expecting the planned gradual interest rate hikes to be put on hold for the time being.


Apart from the news on the economic front, Prime Minister Shinzo Abe’s unexpected resignation also weighed on the Japanese currency. Admittedly, Mr Abe’s position had been weakened by scandals and his defeat in the upper house elections, and he had never had the reputation of being a protagonist of economic reforms. However, after his resignation, it is feared that the conservative and bureaucratic forces could gain the upper hand in Japanese politics once more. The constellation of signs of weakness from the USA and Japan presumably prompted investors to enter carry trades again. Apart from EUR-JPY, the Australian, New Zealand and Canadian dollars were in particular demand. However, investors remained reserved against the pound, despite BoE governor Mervyn King’s initial hawkish “no bail out” approach. The Bank of England’s rescue package for mortgage lender Northern Rock and the decline in house prices currently shown  by two independent indicators, prove that economic growth in the UK is subject to some risks.


Next week’s developments in the forex market will depend mainly on the Fed’s interest rate decision. If the Fed decides to stick to a small step, EUR-USD could correct downwards. However, if expectations of further interest rate hikes remain intact, disappointment is only likely to have a temporary effect. The second highlight of the week takes place on Thursday, when Fed Chairman Ben Bernanke speaks before the Financial Services Committee on the mortgage market.


Stephan Rieke +49 69 718-4114

Economics Department

+49 69 718-3642

[email protected]

Foreign Exchange Trading

[email protected]

Jörg Isselmann

+49 69 718-2695

Matthias Grabbe / Klaus Näfken

+49 69 718-2688


This report has been prepared by BHF-BANK Aktiengesellschaft on behalf of itself and its affiliated companies (together "BHF-BANK Group") solely for the information of its clients. The information and opinions in this document are based on sources believed to be reliable and acting in good faith, but no representation or warranty, express or implied, is made by any member of the BHF-BANK Group as to their accuracy, completeness or correctness. Opinions and recommendations are given in good faith but without legal responsibility and are subject to change without notice. The information does not constitute advice or personal recommendation, for which the duty of suitability would be owed, but may facilitate your own investment decision. Moreover, you should seek your own advice as to the suitability of an investment matter mentioned herein. Investors are reminded that the price of securities and the income from them can go down as well as up and that the past performance of an investment or a market is not necessarily indicative for future results. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete, and this document is not, and should not be construed as, an offer to sell or solicitation of any offer to buy the securities mentioned in it. BHF-BANK Group and its officers and employees may have a long or short position or engage in transactions in any of the securities mentioned in this document, or in any related securities. This publication must not be distributed in the United States.

© 2007 BHF-BANK Aktiengesellschaft

All rights reserved. Please mention source when quoting from it.





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