Fed Forced Back to Easing Mode

by Ashraf Laidi
Sep 12, 2008 17:10 | 4 Comments

The unexpected 0.3% decline in US August retail sales and the 0.9% decline in August PPI suggest that inflation pressures may be heading in the same direction as economic growth, thereby shutting the door on any rate hike probabilities, and providing the Fed with room to consider shifting back towards an easing bias. We mentioned earlier this week that the historic government takeover of Fannie/Freddie was a prelude to the Feds moving back towards an easing bias next week. Todays economic reports marked the data confirmation for such a move, which will be demonstrated in an accentuation of the downside growth risks in the policy statement.

Considering that the only sources of rallies in Wall Street have been government-led interventions (Taking over of Fannie/Freddie, Treasury/Feds assumption of finding a buyer for Lehman) underlines the paucity of positive dynamics in the economy. Prolonged uncertainty in the banking sector, deteriorating US consumer fabric, rising unemployment and looming escalation in the US budget deficit confirm that the dollar rally has little to do with improved US fundamentals and mostly with weaker conditions overseas as well as the intricacies of positions unwinding. Such asymmetry in foreign exchange valuations may lead to a substantial whipsaw and a partial unwinding of the latest dollar rally once the Fed is forced to cut interest rates (our benchmark view since the temporary pause began in June.
Euro Bounce Finds Fundamental Momentum

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Fed Forced Back to Easing Mode - USDX Seo 08 (Chart 1)


Euro r
ebound grows more solid after poor US retail sales and falling PPI, which is likely to extend the rally towards $1.42 into next weeks FOMC. In yesterdays charts strategy we identified the $1.3844 as a major support level for the euro as it represented the 50% retracement of the rise from the 2006 low to the $1.6030 high. Eventually, EURUSD bottomed at $1.3878. This level could also have coincided with the $100 barrel mark in oil prices, which OPEC has sought to defend with its latest rate cut. But we do reiterate that in order for the euro to prolong any gains past one day, there must be positive fundamentals from the Eurozone. The last time the currency has made two consecutive daily gains was in August 18-19.

USDJPY Eyes 106.60

Yen rallies anew after initially having fallen across the board in the Asian session following yesterdays Washington Post report revealing that the US Treasury and Federal Reserve will assume the task of finding a viable buyer for Lehman Bros. This has led to a last minute rally in Wall Street on Thursday, giving rise to gains in high yielding currencies GBP, AUD, NZD, all at the expense of the JPY and CHF. But this mornings combo of weak growth/weak inflation underscore that growth is increasingly becoming the priority instead of inflation. USDJPY is seen extending losses towards 106.60, backed by 106.00.

WARNING: Although the dollar may have a tough session ahead in todays trade, we warn of the possibility of an announcement later in the day that a viable buyer for Lehman has been found, which could trigger similar shot in the arm for risk appetite as was the case in last Fridays Fannie/Freddie announcement (which also took place at the same day of the release of dismal economic news).

Comments (Showing latest 4 of 4) View All Comments
Ashraf Laidi
London, UK
Posts: 0
11 years ago
Sep 13, 2008 23:12
Hi Tan, rate cut tuesday is more of a major development than a "surprise". Not a big "surprise" because AFTER FRIDAY's RETAIL SALES, Fed funds futures were already pricing as much as a 30% chance of a Fed cut as early as MONDAY or TUESDAY. If a new announcement regarding Lehman comes out on Sunday or Monday, then that might help markets a bit, (drag down on yen) which may reduce need for easing. That could win the Fed some time, but in my view, the most LIKELY SCENARIOS:

1) 50 bps cut in DISCOUNT RATE CUT this week; OR,

2) 50 bps FED FUNDS cut between September and October meetings.

Stay tuned.
Tan
United States
Posted Anonymously
11 years ago
Sep 13, 2008 6:19
Ashraf,
Fed cut rates Tuesday, everybody thinks rate unchange. A rate cut Tuesday will be a BIG surprise, dont you think?

USD/JPY can target 105 by end of September? Your thoughts and insight pls. Thks.

I like your new websight. Any video seminar coming, like CMC? CMC closing down, what a misfortuntune.
Ashraf Laidi
London, UK
Posts: 0
11 years ago
Sep 13, 2008 2:38
Hi Hamish, the retail sales and PPI numbers were behind the intensification of the dollar decline. Have a look at the Intraday Thoughts right after the news. I mentioned in Wednesday's seminar that the Fed's next move is a rate cut and I sent CMC clients the chart showing a major trend line support in EURUSD at 1.3845. Here's what we said: "The chart below shows interim support stands at $1.3844, which is the 50% retracement of the rise from the 2006 low to the $1.6030 high. This level could also coincide with the $100 barrel mark in oil prices".

GBPUSD unlikely to follow above $1.80 which is HEAD in the Head&Shoulders (see chart sent on Monday).
JPY may come under pressure if Fed cuts rates this week, but overall, USDJPY unlikley to break above 108.50. 105 remains target.



Hamish
Vancouver, Canada
Posted Anonymously
11 years ago
Sep 12, 2008 22:25
"a partial unwinding" you say!!! Whew! did I get it wrong? what a wake up call.
I am still unsure why usd took such a big hit & as for the gbp & jpy I haven't a clue what happens next.

Ashraf, you have a fabulous website, I hope I can absorb it all & profit by it.

Best wishes.............Hamish