Fed Meeting Wednesday Keeps Pressure on US$

The US$ weakened to new lows this morning as the market awaits the Fed’s decision on interest rates later this week. With the US economy apparently slowing as credit concerns dominate, amidst a slowing housing market, traders are speculating that the Fed will lower interest rates 25 basis points when its two-day meeting ends on Wednesday. This environment of expected lower US interest rates continues to weigh on the US$, forcing investors to liquidate positions. There is some US data slated for release ahead of Wednesday’s meeting, with Consumer Confidence scheduled for release tomorrow expected to decline to 99.0. Wednesday sees the release of GDP, the ADP employment report, Chicago PMI and Construction Spending. While this data could drive trade, it is unlikely that the market will commit to any significant direction ahead of the Fed. The week winds down with the release of the ISM Manufacturing report and the US payroll report. While there is no data expected to be released today, the market will likely weigh on the US$ as traders focus on declining US rates, surging oil prices and the overall hesitancy to own the greenback.

The euro gained overnight, to new all-time highs as traders focus on the probability of lower US interest rates later this week. With interest rate differentials the primary driving force behind the direction of this currency pair, the market continues to favor the euro. Despite the market speculating that the ECB will hold rates steady when it meets on November 11th, the euro’s appeal as a reserve currency continues to dominate capital flows. With many Middle Eastern nations, in addition to India and China adding significantly to their US$ holdings, the euro continues to gain. However, the strong euro has had some positives for the US economy that seemingly are being addressed with some Eurozone disdain. The US$’s 8.5% decline against the euro this year has helped narrow the US trade deficit to $57.6 billion in August, the lowest since January. With this background of a stronger euro, French President Sarkozy has stated his concerns that the euro’s strength will harm exports. This environment of some discord amongst Eurozone officials about euro strength is unlikely to limit the currency’s advance, until officials speak with a common voice. Until such a time expect the euro to gain to new highs.

The yen fell this weekend as stability returning to equity markets, has prompted traders to renter “carry trades” financed with the yen. As the yen continues to act as a proxy for market risk, traders short the currency and take the proceeds to finance positions in other markets. In addition to financing equity market positions, the short yen “carry trade” has helped prop the higher yielding currencies of Australia, New Zealand and the UK. Expect the “carry trade” to continue to steer yen direction, pushing the currency lower in times of seeming market stability, while leading to yen gains as traders quickly exit positions, once risk remerges.

The pound gained overnight as US$ weakness pervades the market as speculation mounts that the US Fed will lower rates later this week. With the Bank of England likely holding rates steady for the remainder of this year, the market will focus on this widening of interest rate differences between the US and UK. This differential will all but certainly favor the pound as evidenced by sterling purchases overnight fueled by “carry trade” positions. This environment of higher UK rates will lead investors to buy sterling on dips through the remainder of the year keeping the pound firm.