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Market analysis
Euro/dollar:
The Euro-zone structural vulnerabilities will continue to be an important focus in the short term with fears surrounding the weaker economies and debt ratings still a significant negative factor for the Euro. There is also a small risk of heavy selling pressure on the currency as confidence deteriorates. The dollar is still not in a good position to gain support on yield grounds while the US fundamentals remain weak as debt fears persist. The US currency can still gain some defensive support as risk conditions remain more cautious. Overall, the Euro is liable to weaken towards the 1.4625 support region by the end of this week even with initial support just below the 1.47 level. The dollar is not in a good position to make strong gains.
The Euro found support below 1.47 against the dollar in early Europe on Wednesday and rallied to near 1.48. The trading pattern was similar to that seen in recent days with the Euro unable to sustain the gains and then being subjected to renewed pressure later in the day as demand for the currency was weaker.
There were further stresses within the Euro-zone which unsettled the currency. Standard & Poor’s put Spain’s credit rating on negative watch from stable previously due to fears over the debt situation and this followed Greece’s downgrade the previous day and this maintained a lack of confidence in the weaker Euro-zone economies.
There were also further fears over the underlying situation surrounding Greek bonds during the day. Bundesbank head Weber warned that Greek bonds would not be eligible to be used as collateral for ECB funds from the end of 2010 when the temporary reductions in eligibility criteria are due to end.
The Euro retreated to re-test support below the 1.47 level later in the US session, but there were further reports of BIS Euro buying near this level which provided protection and the dollar was unable to extend gains with the Euro holding above this level later in the US session. The Euro hit resistance above 1.4750 on Thursday and retreated back towards 1.47 as risk appetite was generally weaker while Dubai fears increased again following reports that another company was set to default.
Sterling:
The pre-budget report will tend to intensify fears over the UK government debt situation and will also increase fears that no credible action will be taken over the next few months. There will also be fears over the medium-term implications for the AAA credit rating and there is a small risk of heavy selling pressure. The Bank of England should hold interest rates and quantitative easing at current levels at Thursday's meeting. Overall, the UK currency is liable to drift weaker and there will be heavy selling on the currency if the amount of bond buying is increased. A slower pace of decline is more likely with Sterling eventually weakening to 1.6060 against the dollar with resistance above 1.6350. The Euro is still liable to hit selling pressure near 0.9140 area against the UK currency.
In the pre-budget report on Wednesday, the government announced a slightly higher budget deficit forecast for the current fiscal year of GBP178bn with very little change for next year with a deficit of GBP176bn.
There was a proposed tax on banking-sector bonuses, but little in the way of fresh measures to curb near-term borrowing levels, as labour-market taxes were raised slightly from 2011. There will be increased fears that no significant action will be taken before the general election which must be held by June 2010.
In this environment, there is a high risk that market confidence in the debt situation will deteriorate further and there is certainly a small risk that there will be a very serious loss of confidence which could trigger heavy Sterling selling. There was renewed selling pressure following the report, but Sterling again found support below 1.62 against the dollar and rebounded to near 1.63 as selling pressure eased. Weaker risk appetite helped push Sterling back towards 1.62 on Thursday.
Yen:
The Japanese currency will continue to gain support when there is a deterioration in global risk appetite. There will still be pressure for yen gains to be resisted given stresses within the economy and deflation fears. On a near-term view, there is scope for firm dollar support below the 87 level against the yen even with the US currency unlikely to make strong headway.
There was a further dollar retreat to lows near 87.35 against the yen in Europe on Wednesday before a rally back to the 88 region as risk conditions looked to stabilise.
Domestically, machinery orders declined 4.5% in October following a sharp increase the previous month. This was broadly in line with market expectations and suggested some underlying stabilisation in capital spending, although confidence will remain fragile as the economy is still vulnerable to underlying pressure.
Risk conditions remained important and the yen derived defensive support from a renewed decline in Asian equity markets during Thursday. The dollar was unable to hold above the 88 level and weakened back towards 87.70 late in the Asian session. The yen also strengthened back towards Euro support levels near 129 as risk conditions deteriorated.
Swiss franc:
The National Bank decision to maintain a policy of intervention will tend to weaken the Swiss currency to some extent given some speculation that the policy could have been reversed. The impact is likely to be measured as there is still little selling pressure on the Swiss currency. The franc will also still tend to gain some support if there is a sustained deterioration in risk appetite. Overall, the dollar is likely to make a fresh challenge on the 1.03 area against the franc and could push to 1.0350 even though resistance levels will be tough to break.
The dollar again pushed to a high near 1.03 against the Swiss currency on Wednesday with franc support holding close to this level and there was a correction back towards 1.0260.
In its quarterly monetary policy decision, the National Bank left interest rates at 0.25%, in line with expectations. The bank also maintained its policy of intervention to prevent franc appreciation while corporate bond purchases were scaled back.
Australian dollar:
The Australian dollar gained support in Asian trading on Thursday with stronger than expected labour-market data as employment rose by over 30,000 for November compared with expectations of a 5,000 increase, maintaining expectations of a robust performance by the Australian economy and the currency rose to a high of 0.9170 level against the US dollar. Overall risk appetite is still liable to be weaker and this is likely to cap Australian dollar recoveries close to current levels, especially with risk appetite generally weaker.
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