US$ Remains Firm Ahead of ECB and BOE Meetings

The US$ weakened slightly overnight as traders consolidated last week’s gains amidst slowed trading volume due to banking holidays in Japan and the UK. After the Fed signaled to the market last week that it is poised to halt its cycle of rate cutting instituted at the end of 2007, traders again began cautiously purchasing the greenback. Adding to this US$ purchasing, was the release of better than forecast US economic data, signaling that the economy could ultimately weather the recent recessionary storm. With the Fed all but signaling that rates will remain steady at 2.00%, traders have now shifted to economic releases. The market was surprised by the release of a better than expected jobs figure Friday, however, the flow of data will likely continue to greatly influence trade this week. At 10:00 a.m. ISM Non-Manufacturing data is to be released expected to decline to a reading of 49.0 from 49.6 last month. Wednesday sees the release of Productivity data, Pending Home Sales and Consumer Credit, while Thursday yields Weekly Claims data and Friday reveals the Trade Balance Report. Given the limited data released this week look for trade to be light and range bound ahead of Central Bank meetings on Thursday.

The euro gained slightly overnight as traders support the view that the ECB will maintain rates at 4.0% when they meet on Thursday. Recent rhetoric from various ECB officials has suggested that the Bank will maintain its bias to combating inflation pressures. There will likely be no shift in bias amongst the Central Bankers as mounting inflation readings continue to determine policy. Many analysts believe that despite recent data pointing to the early stages of a slowdown within the Eurozone, the ECB will not signal any immediate shift in rates or bias. This should ultimately keep the euro well supported within recent ranges; however, technical indicators seem to be pointing to the common currency remaining in an “overbought” status. Should this prove to be the case, the euro could exhibit significant further declines against the greenback.

The yen continues to remain weak as traders cautiously reenter the “carry trade,” using short positions in the currency to finance moves into other asset markets. With the worst of the global credit crisis seemingly passed, traders have again begun to apply more risk to their portfolios. The preferred mechanism to apply this risk remains the Japanese yen. With interest rates at 0.5%, and officials in the government suggesting that these rates could move lower in the coming months, as Japan’s economy shows signs of slowing, the yen will likely continue to remain under pressure.

The pound fell overnight after a resounding political defeat for the Labour government of Gordon Brown and ahead of an interest arte policy meeting on Thursday by the BOE. The Labour Party suffered its worst local election results in over four decades as economic turbulence coupled with the Prime Minister’s abrasive manner sent voters to seek candidates in other parties. While these results do not suggest that Brown will be forced to hold early elections, odds do shift significantly in favor of a Conservative government by 2010. Also helping sterling to weaken is speculation that the BOE will hold rates steady at Thursday’s meeting. While inflation pressures are present in the UK economy, there is still significant weakness in the housing market, which will likely forestall the Bank from hiking rates anytime soon.