Currencies At Pivotal Levels

Ahead of today’s highly anticipated Fed FOMC meeting markets are holding their breath to determine exactly what the Fed will deliver. The consensus view is for the Fed to announce a programme of $500 billion in asset purchases spread over a period of 6-months. The reaction in currency markets will depend on the risks around this figure. Should the Fed deliver a bigger outcome, say in the region of $1 trillion or above, the US dollar will likely come under renewed pressure. However, a more cautious amount of asset purchases will be US dollar positive.

It has to be noted that the Fed will likely keep its options open and keep the program open ended depending on the evolution of economic data which it will use to calibrate its asset purchases. The USD will likely trade with a soft tone ahead of the Fed outcome, but with so much in the price, it may be wise to be wary of a sell on rumour, buy on fact outcome.

Whatever the outcome many currencies are at pivotal levels against the USD at present, with AUD/USD flirting around parity following yesterday’s surprise Australian rate hike, EUR/USD holding above 1.4000, GBP/USD resuming gains above 1.600 despite a knock back from weaker than forecast construction data, whilst USD/JPY continues to edge towards 80.00. Also, both AUD and CAD are trading close to parity with the USD. The Fed decision will be instrumental in determining whether the USD continues to remain on the weaker side of these important levels.

Going into the FOMC meeting the USD has remained under pressure especially against Asian currencies as noted by the renewed appreciation in the ADXY (a weighted index of Asian currencies) against the USD this week. Although it appears that the central banks in Asia have the green light to intervene at will following the recent G20 meeting the strength of capital inflows into the region is proving to be a growing headache for policy makers. One option is implementing measures to restrict “hot money” inflows but so far no central bank in the region has shown a willingness to implement measures that are deemed as particularly aggressive.

There has been some concern that Asia’s export momentum was beginning to fade as revealed in September exports and purchasing managers index (PMI) data in the region and this in turn could have acted as a disincentive to inflows of capital, resulting in renewed Asian currency weakness. The jury is still out on this front but its worth noting that Korean exports in October reversed a large part of the decline seen over previous months. Moreover, the export orders component of Korea’s PMI remained firm suggesting that exports will resume their recovery.

Nonetheless, manufacturing PMIs have registered some decline in October in much of Asia suggesting some loss of momentum, with weaker US and European growth likely to impact negatively. However, China’s robust PMI, suggests that this source of support for Asian trade will remain solid. Similarly a rise in India’s manufacturing PMI in October driven largely by domestic demand, highlights the resilience of its economy although with inflation peaking its unlikely that the Reserve Bank of India (RBI) will follow its rate hike on Tuesday with further tightening too quickly.

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