Foreign Exchange Market Overview

Wed, April 06, 2011

The Pound continued its advance against the US Dollar on Tuesday, as economic figures provided an improved outlook for the UK. The trading pair pushed up to a high of 1.6278 as serviced based activity advanced at a much faster pace than was expected in March, as the PMI hit a thirteen-month high with a reading of 57.1 compared to the 52.6 consensus forecast. Aside from the manufacturing sector, which grew at a slower than expected pace, all PMI readings have provided a surprise increase in activity, indicating that the pace of recovery in the UK is improving.

Today the docket is scheduled to see the National Institute of Economic and Social Research (NIESR) release their estimates for GDP growth in March. The report will provide some insight into the health of the UK economy since official figures showed that GDP contracted at the end of last year, but with the aforementioned PMI readings showing growth in all sectors, it is likely that the figure will show the economy has expanded, and that last year's contraction was owed to poor weather conditions. Elsewhere Industrial and Manufacturing production figures for February disappointed economists this morning. Forecasts had called for Industrial production to slow to a pace of 0.4% down from 0.5%, but rather than merely slowing, industrial production contracted by 1.2%. Manufacturing on the other hand halted growth entirely, instead of advancing by 0.6% as forecasted. The outcome lead the Pound to fall from this morning's high of 1.6340 against the Dollar for GBP/EUR to slip below 1.14.

The Euro began to falter against both the Pound and the US Dollar, as sovereign debt once again weighed on the single currency. This renewed fear over the region was brought on by Portugal's downgrade by Moody's Investor Services, making this the second downgrade to the nation's sovereign credit rating within the space of a month. Moody's cut the nation's rating from A3 to Baa-1, a very similar move to Standard and Poor's who cut Portugal's rating to BBB-, and cited that Portugal's increased uncertainty over its budgetary and economic future, as well political uncertainties, increases the risk that the nation will be unable to meet is deficit targets. With an uneven recovery taking place across the region, and sovereign debt risk intensifying, the ECB may have to delay raising interest rates as higher borrowing cost will ultimately slow economic activity within weaker members of the EU. Further to this region-wide retail sales slipped by 0.1% in February when economic forecasts had expected to see an increase of the same magnitude. As a result of the day's news the Euro slipped to a low of 1.4151 against the Dollar, while the Pound pushed up to a high of 1.1473.

This morning the Euro-zone will see the final revisions to its 4th quarter GDP figure, which is expected to remain unchanged from its preliminary reading of 0.3% quarter-on-quarter, and 2.0% annualised growth rate. Should the market see a surprise upward revision in the region's growth then, the Euro will most likely rally, however given the trouble in both Ireland and Portugal, its possible that economic activity at the end of last year was worse than previous estimates showed. Later into the European session, the growth rate of German factory orders is expected to have slowed in February to 0.5% down from January's 2.9% rate.

Although price action against the Euro was choppy, there was still obvious downward trend on the Euro-Dollar exchange rate throughout much of the day, until the open of the US trading session. It was at this point that the pair made a sharp reversal as the ISM Non-manufacturing index showed that, although service based activity was growing; it was at much slower pace than had been anticipated by economists. The index fell from its February reading of 59.7 to 57.3, while the consensus had called for the pace of activity to slow marginally with a reading of 59.5.

The dollar's sell-off was not aided by commentary from US Treasury Secretary Tim Geithner, who warned that the US will reach its borrowing limit by mid-May unless lawmakers resolve a stand-off over budget cuts. If an agreement is not reached, it would result in the suspension of government services, such as social security payments, which is known as a government shutdown. This means the US government won't have the authority to spend money, and in turn the US Treasury will be unable to borrow more money if it reaches the debt ceiling of $14.29 trillion. Mr Geithner warned that a shutdown would cause 'a financial crisis potentially more severe than the crisis from which we are only now starting to recover'. Lastly the FOMC Meeting Minutes revealed that there is divide amongst Federal Reserve Policy makers over whether to remove the $600 billion stimulus package before it is due to be completed in June. According to the minutes, "A few participants indicated that economic conditions might warrant a move toward less-accommodative monetary policy this year; a few others noted that exceptional policy accommodation could be appropriate beyond 2011." This suggests that the Fed may begin to tighten its monetary policy as the pace of recovery gathers, which could lead to an increase in risk appetite amongst traders which in turn could see the Dollar trade lower.

Once again the US will be subjected to a light economic docket today. This leaves the commentary by the Fed's Dennis Lockhart at Stone Mountain in Georgia, as the most likely event to move the market over the US session.

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