MARKET REPORT 16^th June 2008

STERLING vs. EURO

The focus this week will remain on inflation, with the latest CPI figures due in the UK and euro zone and PPI published in the US. We expect the data to show price pressures remain elevated, raising the probability of interest rate rises in the coming year. In the UK, we look for CPI to breach the upper 3% limit of the 2% official target, prompting the BoE governor to send an open letter to the Chancellor to explain why this occurred and what he intends to do about it. If this is the case, the letter will be published later the same morning and could affect interest rate expectations. Further details about how the recent acceleration in inflation and inflation expectations could impact Bank rate which will be available in the minutes of the June 4-5 MPC meeting on Wednesday 18^th. We expect the discussion to have at least featured the merits and risks of raising Bank rate earlier this month, although Blanchflower may have again voted for a cut.

In The Eurozone, it was unofficially announced on Friday that Ireland has rejected the Lisbon Treaty. Drafted in September 2007, the Treaty of Lisbon would have come into effect starting January 1, 2009, assuming that all member states of the European Union had ratified it. While 26 of the 27 members of the EU are able to ratify the treaty via their parliaments, Irish law dictates that before the country can accept the document, a referendum must be held.

Markets will receive final estimates regarding the euro zone CPI for May. Economists are expecting the preliminary estimate of 3.6% annualized inflation to be confirmed. The core inflation rate is also expected to increase, rising to 1.8% in May from the 1.6% increase recorded in April. Rising inflation will add weight to the idea of a Euro rate rise in the short term.

The Lisbon Treaty’s lack of support should provide a short term downside to the Euro however, we expect it to retain support form Euro zone rate rises and an easy move back toward 1.2 as the UK struggles to balance inflation against credit risk.

STERLING vs. DOLLAR

Last week we saw sterling hit a four-week low against the dollar after a rise in U.S consumer prices keeping investors focused on inflation, boosting the dollar on the view that the U.S interest rates may rise in the future. The consumer prices were helped by the soaring gasoline and energy prices. U.S consumer prices rose 0.6% in May, which was more than the forecasted 0.5%, CPI was at 4.2% higher y/y than the expected 3.9%. On Tuesday Federal Reserve chairman Ben Bernanke made further hawkish comments, saying that the risk of a sharp slowdown in the US economy has been avoided.

According to the University of Michigan, US consumer confidence hit another 28 year low in June, the index came out at 56.7, down from 59.8 in May, but pending home sales in April were released on Monday at 6.3%, much higher than the expected -0.5% therefore we may have seen the worse from the US.

Due out on Wednesday are the BoE minutes, which we are expecting to signal further rate cuts due to the poor credit crunch later in the year. The BoE are in a difficult position, with accelerating inflation and slowing economic growth. This is putting Sterling under increasing pressure and with the US looking to possibly increase their interest rates it is expected for Sterling to weaken against the Dollar forcing the rate to drop.

AUD

This week saw some of the potential pitfalls for the Australian dollar and indeed the Australian economy as a whole, come to fruition. There was partial unwinding of carry trades in the first instance which gave an immediate weakening of the AUD against all of its major currency crosses. Indeed the domestic data in Australia put in a poor performance last week as well to further enhance the effects of unwinding carry trades. The key declines came in housing finance figures and importantly business and consumer confidences. Furthermore the employment data last week saw the Australian job sector decline by just short of 20,000 jobs in May, a disaster following the creation of over 25,000 jobs in April and indeed wide expectations of further jobs to have been created.  All of this saw a retreat away from 2 dollars to the pound, with a move higher towards 2.07.

No doubt, last week did take some of the wind out of the Aussie’s sail’s; however it is certainly not all doom and gloom for the antipodean economy. The RBA still maintains a hawkish stance despite a slight cooling in the economy. Indeed Governor Glenn Stevens said last week that rising commodity prices would provide the largest boost to the Australian economy in well over 50 years. With this in mind we are still maintaining the argument that Australia has managed the fall out of the global credit crunch better than most western economies, and as such their currency will maintain a strong outlook for the future as well. With Sterling still in the economic doldrums, that particular cross still looks heavily weighted towards the Aussie despite last weeks blip.

NZD

Last week the Kiwi lost ground against a basket of major currencies which resulted in Sterling being one of the key benefactors. The kiwi, which is under continuing pressure to cut interest rates saw carry trades unwind quite considerably.

The Kiwi has always been one of the key targets for carry trades against the low yielding Yen and more recently the low yielding US Dollar. However, the Kiwi is loosing its appeal, most analysts are pricing in a 0.25% interest rate drop before September, meaning that the interest rate differential is shrinking and therefore won’t be the profit making tool it once was, this is especially so with the US looking to raise rates soon which would close the gap even more.

Further evidence that the New Zealand economy is slowing came through export figures which showed that the industry declined by 3.5% in the first quarter compared to a growth figure of 10.7% in the last quarter of 2007. Housing data also showed that property sales volume decreased by 2% in May.

This is welcome news for Kiwi purchasers in the UK who have seen the markets slip away and the currency get more expensive month on month for some time. However, caution should be exercised as the outlook for the GBP/NZD will be dictated by Sterling’s performance as well as the Kiwi’s and with  UK interest rate cuts on the horizon the suggestion is that purchasers should take advantage of the gains but be wary not to become too greedy.

CAD

At the back end of last week the CAD strengthen against the pound after the BoC signalled the end of their monetary easing cycle.

The BoC unexpectedly left rates on hold at 3%, countering expectations of a 25 basis point cut to 2.75% The central bank also signalled the end to its rate cutting cycle amid unexpectedly strong inflationary pressures.

Governor Mark Carney said price hikes now outweighed the weak economic growth as the top risk to the economy. The central bank said inflation is likely to be greater than previously projected in April, rising above 3% later this year, in contrast to their previous estimate of below 2% all year.

This week the BoC signalled the end of a 5 month cutting cycle which lowered rates by 150 basis points. We expect the end of the cutting cycle to benefit the CAD in the short term; but the fact still remains that growth has slowed significantly in Canada with inflationary risks on the upside.

We expect the cross to remain range bound between 2.02 and 1.92

GBP/EUR

Last week was a week of mixed news on the Sterling Euro Cross, and it may have started to shed some light on the medium term future of these two currencies. Sterling ’s news was varied, with mild support coming from Retail Sales data, which although negative, falling 0.2% in April, this fall was less than actually expected. However it was the release of the Bank of England minutes last Wednesday that really began to paint the picture for the Pound against the Euro. 8 of the 9 MPC members voted for a no change on interest rates, and it is now clear that the huge task faced by the economy is inflation vs. growth. With the banks sole mandate to keep inflation at bay, rate cuts seem almost impossible at the moment thus it appears growth to the economy must suffer further and will indeed hamper the performance of Sterling .

Conversely, the Euro gained ground against Sterling last week, with German business sentiment bullish, and heightened expectation of interest rate rises on the horizon. The problems that the ECB are facing are similar to that of the BOE, but a much milder case with growth not being hampered to the same level, and the inflationary pressure that are present being seen as healthy for the EZ economy. Indeed there is much more confidence in the markets at present in the ECB’s capabilities when compared to either the BOE or the FED in America . As such, outlook for the short and medium term is that the Pound will loose further ground as it fails to strengthen, and the Euro will steadily strengthen itself. The outcome could see Inter Bank levels below 1.23 and trading as low as the late teens. All those with large balances to be transferring to the Euro zone this summer, for business or property should strongly consider a Forward contract to protect themselves from further losses. 

GBP/USD

The dollar fell heavily in the first half of last week, before stabilising slightly. Weakness was driven by negative Fed minutes and soaring oil prices, breaking through the $135 a barrel mark.

US producer prices, reported on Tuesday, rose less than expected, but core inflation, which strips out food and energy prices, rose by a larger than expected 0.4% mm.

Minutes from the Fed's April 29-30 policy meeting, released on Wednesday, showed the Fed was worried about inflation, but cut its 2008 growth forecast and warned of higher unemployment. The 2008 growth forecast ranges were cut to 0.3% - 1.2% from its estimate of 1.3% - 2% made three months ago.

Markets are pricing in the probability of a US rate hike this year on inflation concerns, but the Fed growth forecasts and employment concerns counter this and suggest there could still be some further monetary easing to come in the US .

Although this is the case, " Sterling is caught in a trap, whereby when rate expectations fall back it's negative for sterling, and when rate expectations rise it's not a positive because they are rising for the wrong reasons," said Adam Cole, global head of FX currency strategy at RBC Capital Markets.

"It is therefore difficult to be positive on sterling at the moment."

The recent dollar weakness explains the move higher in cable, however given that the BoE remains behind the curve in terms of its monetary easing cycle; cable should remain under pressure, with the longer term trend heading lower. The Forward purchase of Dollars is thus a clever choice at present.

AUD

The Aussie Dollar had another good last week against a basket of major currencies and in particular the US Dollar. The Dollar drew most of its strength from renewed carry trades with investors seeking high returns in what is now seen as a relatively safe haven of the high yielding Aussie Dollar. The movement sparked the Aussie into reaching 24 year highs against the US Dollar, 2 year highs against the Kiwi and 2 month highs against the Yen.

Last week saw the Reserve Bank of Australia release minutes from the previous interest rate meeting where rates were left unchanged at 7.25%. Despite keeping rates on hold the minutes did show that members considered carefully the case for raising rates, indicating that they are still concerned about controlling inflation. The Aussie Dollar was also supported by firmer commodity prices and precious metal prices with gold in particular pushing up after a recent  wide scale sell off.

With interest rates in Australia on hold at the moment the outlook for the Aussie Dollar against Sterling remains the same. The economy in Australia is robust, it is showing good growth and there is a strong demand for the currency, especially from overseas investors. The currency continues to strengthen against the dwindling Pound; however, with a psychological barrier of $2 approaching the question is whether it has enough momentum to push through it.

NZD

A quiet week for data left the Kiwi relatively unchanged against a basket of major currencies and with the RBNZ looking like they will leave rates unchanged for the time being, we mainly saw sideways trading between the Kiwi and the Pound.

The only key release last week was the government announcing the country’s annual budget and with that, larger than expected tax cuts. Finance minister Cullen announced NZD 8.2 billion tax reductions from October which should help the slowing economy and signals that interest rates are likely to remain on hold for now.

With rates looking to stay on hold for now we should see Kiwi gaining some support as a key currency used in carry trades (rates are currently at 8.25%) but with the current global economic slowdown the Kiwi will have to draw continuous support from carry trades as any decline in global risk appetite or an unwinding of carry trades would see more volatility in the NZD and a possible sell of against the Pound. However, for now we expect rates to remain range bound between 2.45 and 2.55 as interest rates look to remain on hold in both countries in the near future with looks to possible cuts from both the BoE and RBNZ towards the end of the year.

CAD

The CAD/GBP cross found support at 1.9360 and once again bounced back up towards the

1.97’s last week.

Wholesale trade, released last Tuesday, rose 0.6% in March, better than forecast. Canadian CPI annual inflation also rose to 1.7%, higher than the 1.4% expected but this is still below the Bank of Canada’s 2% target. After the inflation data, a Reuters poll showed 8 of Canada’s 12 primary security dealers still expect the Bank of Canada to cut interest rates to 2.75% from 3% in June.

Concerns about the US economy highlighted by the BOC suggest that we could see some further monetary easing after the suggested rate cut in June. It appears that the BOC still have room for further cuts given that the inflation figures are still below the 2% target.

The continued resistance of the Canadian economy and its more aggressive interest rate cuts put them ahead of the curve in comparison to the UK and therefore, as long as the Canadian housing market remains robust and the impact from the US slowdown is not too severe, in the long term CAD is highly expected to strengthen against the British pound.

MARKET REPORT 19^th May 2008

GBP

The main theme for Sterling last week was the strong inflation data that was released showing that it may prove difficult for the Bank of England to cut rates as expected, even with a sharply slowing economy. The BoE’s quarterly inflation report showed that with current expectations of at least 50 basis points being cut this year, inflation will stay above the Bank’s 2% target for some time to come, and economic growth will slow sharply. Figures causing inflation to reach such levels are UK output prices rising at an annual rate of 7.5%, the highest since records began in 1986, core output prices rising much higher than expected and the annual rate for input prices hitting an all time high of 23.1%. UK consumer prices rose 0.8% in April, the steepest increase for nearly seven years, which took the annual rate of inflation to 3%.

The job of the MPC is looking even harder this morning as the RICS has reported that 95.1% of its members have seen a fall in house prices in their area rather than a rise in the three month’s to April. The regional figures were even worse with all members in East Anglia , the North and North West reporting a fall in prices.

This week we have retail sales on Thursday which are expected to be down slightly from last month, UK GDP on Friday which is expected to show that year on year growth is still at 2.5%, and on Wednesday we have the BoE minutes from this months monetary policy meeting. Even though rates were held on 8^th May, the report should give us more of an idea of how the MPC are thinking and how likely it is that we will see more cuts this year. As inflation control is the sole mandate for the bank, it is looking like it will be very difficult for the BoE to cut rates as much as expected this year so we now think that we could see rates stay on hold until at least August or September. We don’t expect this outlook to help Sterling much though as the outlook for growth is so dire. We therefore think GBP/EUR will remain below 1.3 for 2008, with Cable staying in the low to mid 1.90’s.

EUR

The Euro was stronger against the pound last week amid positive GDP data. The growth data for the Eurozone in the first quarter was stronger than expected with a 0.7% increase, beating expectations of only a 0.5% increase. Inflation for the Eurozone was confirmed at 3.3% y/y for April, retracting from an all time peak in March of 3.6%, the inflation at 0.3% in April was attributed mainly from a 1% rise in energy prices and a 0.5% rise in food costs.

Despite the positive GDP data last week ECB president Jean-Claude Trichet warned that the Eurozone was heading for a slowdown. The ECB’s policymaker Axel Weber said despite the expected slowdown there was no scope for rate cuts and that higher interest rates were still an option to control inflation.

This week we have the German ZEW predictions out on Tuesday. The ZEW speak to experts and try to predict what is going to happen with the economy. We also have the German IFO report out. The IFO looks at current German business climate as well as their expectations for the next six months. With the data that is due out this week, if the IFO and ZEW data comes out lower than expected, then it would show that the credit crunch is kicking in, which will gradually affect the rest of the EU, therefore we could see the EUR weaken.

Even though we have seen positive GDP data, the ECB members have reiterated that GDP is expected to slow during the second quarter and the data due out this week could back up this view. It is expected that the ECB will keep their rates on hold at 4% for the next few months to see how things unravel.

USD

Despite the recent correction in the dollar and the hope that the FED may pause its monetary easing cycle, we still suspect that further rate cuts may yet be seen.

Last week the dollar slipped against the euro, as consumer confidence fell to a 28-year low. The University of Michigan survey of consumer confidence fell to its lowest level in 28-years. Record oil prices also raised concern that U.S economic growth will slow. The currency was also close to a one-week low versus the pound, this is due to home sales falling for a second month. U.S home resales declined 1.6 percent to a 4.85 million annual rate in April.

The dollar has been weighed down by a combination of gloomy U.S economic data and high European inflation -- fueling expectations that the U.S. Federal Reserve will continue cutting its interest rates, while the European Central Bank will leave the cost of borrowing unchanged at 4 percent.

A normal U.S economy is likely to look a lot different, and worse, after the credit crisis is over and financial markets settle down.

Companies will continue to struggle to raise cash for expansion and innovation as investors and lenders remain focused on conserving capital. Workers, too, may have less flexibility to go after new opportunities, because many will be stuck where they are -- in homes worth less than the balances on their mortgages.

AUD

The Aussie Dollar was stronger against a basket of major currencies last week, including the Pound, as during volatile trading the antipodean currency drew strength from positive sentiment and a heightened sense of risk appetite. Indeed there were some economic positives to be drawn from many sources around the world at the close of play last week, with better than expected Q1 growth for Europe and Japan and better housing starts in the US . These sorts of data release help to improve global risk appetite which has a direct knock on affect to the AUD by improving carry trade conditions (Overseas investment into the AUD).

Indeed all this in a week where commodity prices were again buoyant, with base and precious metal prices rising sharply at the end of the week, no surprises then that the AUD was challenging the 2 mark against Sterling. It also seems unlikely that the high interest rates are going to be cut anytime soon in Australia, and with the situation in the UK looking ever more gloomy we can only expect continued strengthening of the AUD against GBP, unless the carry trades collapse. 

NZD

After a slow start to the month, there was an array of important economic data released in New Zealand last week. The week kicked off with April house sales, dropping by 1.1% and house prices fell by 1.1% year on year in April. Retail sales for the first quarter contracted by 1.2%, well below expectations for a reading of -0.3% quarter on quarter. This was the sharpest decline in 11 years.

Although this was the case, the kiwi managed to recoup its losses from the start of the week on the back of robust demand for carry trades and gains in global equity markets, with market participants looking for riskier assets and higher returns.

It is still believed that the kiwi will remain rangebound versus sterling in the short term. Interest rates in New Zealand are expected to remain unchanged in the near future, with prospects of cuts later in the year. Interest rates in the UK are also expected to remain unchanged for the time being, but the pound sentiment is extremely negative, therefore the cross could continue trading sideways. A sharp decline in global risk appetite and unwinding carry trades would see more volatility in the kiwi and a possible sell off against the pound.

We have an unusually light calendar this week. The only significant market-moving item on the docket will be Finance Minister Cullen’s presentation of the government’s 2008 budget on Wednesday, which may ease some of the pressure from the clearly bearish market sentiment towards the Kiwi dollar.

CAD

The CAD has continued to make gains against the weak pound as Canada seems to be managing the global credit squeeze well. Although the housing prices rises are slowing, Canada has so far avoided the downturn affecting their neighbours the US . Manufacturing sales data is a concern, but this justifies why BoC have cut interest rates aggressively. Since February the BoC have cut interest rates in recognition of knock on effects from the US economy, and hence readjusted their growth projection to take into account diminishing exports from the US . What is positive for the long term health of the economy is that domestic consumer spending remains robust and house prices are expected to remain firm.

The BoC have had more flexibility over their interest rates compared to other countries because inflation is still below the BoC’s 2% target, which could allow more rate cuts. Growth remains firm and Canada has made aggressive interest rate cuts which could put them ahead of the curve in comparison to the UK . Hence, in the long term we expect the loonie to strengthen against the pound, provided the Canadian housing market remains robust and the impact from a US slowdown is not too severe.

FCG Market Report 28^th April 2008

GBP

Last week GBP suffered with various figures coming out lower than expected. Rightmove reported on Monday that the house price inflation in England and Wales slowed to its lowest since mid 2005 and house price inflation in England suffered its first fall in six years. Home loans fell by almost 50% against March figures last year. There was a unanimous cut expected from the BoE MPC meeting, however 2 of the 9 members voted for no change and we therefore saw a temporary sterling recovery, we also saw weaker than expected German CPI data which affected the Euro we therefore saw the GBP/EUR cross increase. The first quarterly GDP figures came in with expectations at 0.4% qq, but at a lower rate than expected 2.5% yy, which makes this the weakest rate in the first quarter for 3years.  

There is very little change expected in sterling as there are no major data releases due this week. However with all the bad data we saw last week the pound doesn’t look as though it will get any better, with a further 50-75 basis points still expected to come off UK rates this year. Therefore we do not expect to see any major recovery in sterling for the foreseeable future.

EUR

Poor domestic data from the Eurozone and mixed comments from ECB policy makers saw the Euro finish the week slightly lower against the Pound.

Eurozone PMI (Purchasing Manager Index) showed that service sector growth rebounded marginally but manufacturing sector PMI fell back towards the 50 figure (a reading of 50 is the divide between growth and contraction) and is at a 31 month low. A member of the German IFO research institute said last week that “negative forces from the oil prices, the euro and financial crisis are starting to have an effect”. He also added that companies in Europe are now expecting the financial crisis to have an impact on the real economy.

Comments from ECB policy makers were mixed last week with some members on Tuesday suggesting that unless inflation levels start to slow there could be further increases in interest rates. This sent the Euro to a new record high above 1.60 against the Dollar. However, other members spoke last week with more calming tones saying that it would be very difficult to raise interest rates despite rising inflation. There were also warnings about the implications of the Euro getting too strong against the Dollar.

This divide over Eurozone monetary policy will only stand to increase uncertainty and unsettle the Euro. European governments are more concerned over weaker growth and the strong currency, yet the ECB is remaining tough on inflation. We do not expect the ECB to raise interest rates for the next few months as manufacturing data suggests that activity is starting to slow, and inflationary pressures mean cutting rates is out of the question for now. Against the Pound though we expect that the GBP/EUR cross will remain low and continue trading between 1.20 and 1.26 for the time being.

USD

More bad news for the USD as Us existing home sales fell 2% last month, while new homes sales fell by 8.5% to a seventeen year low. Analysts at Dresdner Klienwort say the housing slump is so severe it could take off 1% of US GDP growth this year.

Also US durable goods orders fell by 1.5% in March, the third fall in a row.

Yet another ailment to the US misery index of soaring gas and wheat costs and falling home values, federal deficit that is beginning to grow as foreign investors led by Japanese recoil from the slumping dollar.

The Japanese who own 586.6 billion or 12% of US government debt, had their worst quarter in treasuries this decade, losing 7% in the first three months of the year as the Dollar fell to the lowest since 1995 versus the yen.

Despite a strong technical rally at the end of last week, the dollar continues to remain under pressure, particularly from deteriorating consumer confidence and a worsening housing market.

The fed is expected to cut rates by 25 basis points on Wednesday this week, despite this, the BOE remains behind the curve in terms of its monetary easing cycle, which should keep cable under pressure.

AUD

The Australian Dollar had another good week last week with a collection of strong data confirming the Aussies healthy position against powerhouse currencies, like the Pound and the Dollar.

Key data releases included the producer price index which grew by 1.9% for the first quarter, with a year on year growth of 4.8%. Wednesday saw Consumer Price Index (a key inflation forecast) estimate at 1.3% for the first Quarter and annualised at 4.2% making inflation the highest level in 17 years. With interest rates at a 12 year high the market has adjusted its forecast and is now expecting a sustained period of unchanged interest rates in Australia .

Carry trades also played an important part last week with improvement in global risk appetite earlier in the week resulting in the Aussie Dollar reaching a record high against the US Dollar. However, by the end of the week the Aussie Dollar had retreated slightly as carry trades experienced some profit taking and overall the US Dollar strengthened.

The short and the long term view of GBP/AUD remains unchanged with the Aussie expected to continue to make gains against the pound. Buoyant commodity prices and growth in carry trades are expected to continue to support the Australian Dollar whilst Sterling continues to struggle with the fall out of the credit crisis posting very poor housing figures and expected interest rate cuts.

NZD

The Kiwi was lower against a basket of major currencies, while remaining rangebound versus the pound this week.

On Thursday last week the RBNZ left rates unchanged at 8.25%.

Reserve bank governor Alan Bollard cited weaker economic activity, declines in consumer and business sentiment and tighter credit conditions as the key reasons behind the bank’s decision. He also added that there is much uncertainty surrounding the economic environment as turbulence in the global financial markets persisted.

The NZD is likely to continue trading sideways against the pound, with rates in New Zealand expected to remain on hold in the near future and with the RBNZ confirming this week that rates have peaked.

An aggressive monetary easing in the UK could make the Kiwi stronger against the pound, but this will depend on the global risk appetite as well.  

CAD

The Canadian dollar, after surging past parity with the American greenback last year, appears to have run out of steam at a time when it should still be on a move up as commodity prices have hit record highs, the CAD has unusually failed to keep up the pace.

Focusing in on oil, as an example, suggests that this week's record price levels would normally be associated with a loonie Strength (as a major exporter) rather than recent trends of just under par performance.

After posting one of the strongest advances among the major currencies in 2007, Canada 's dollar has dropped almost to the back of the pack so far in 2008. While the loonie's performance may bring some small relief for the Canadian manufacturing and tourism industries, it carries potentially unwelcome economic side effects, especially at a time of soaring resource prices (Gas etc).

Looking ahead, Canadian Finance Minister Jim Flaherty will sit down with the country's senior bankers Monday in Toronto to update them on recommendations following a G7 meeting earlier this month in Washington . Flaherty moved ahead a meeting with the banks scheduled for May, saying it was "necessary that we meet together to talk about the financial stability forum (FSF) recommendations." Consequently, further rate cuts appear to be on the agenda, which may weaken the CAD in the short term (although the GBP/CAD cross will be underpinned by Sterling weakness), but strengthen CAD in the longer term as greater economic stability and growth should evolve as a result.

For further incite into the currency markets and for information on how to save money when making foreign currency transfers, call Robert Ingleby at the Foremost Currency Group.

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