Though the dollar continues to push to new 14-month lows, the pace
of this descent has cooled. However, this should not be considered a
sign that conditions are actually improving for the US economy or its
currency; because that would ignore the underlying fundamental current
behind this benchmark – risk appetite.
The Economy and the Credit Market
| Though
the dollar continues to push to new 14-month lows, the pace of this
descent has cooled. However, this should not be considered a sign that
conditions are actually improving for the US economy or its currency;
because that would ignore the underlying fundamental current behind
this benchmark – risk appetite. It has been said ad nauseam in the past
months that the dollar’s primary driver is general market sentiment;
and that reality has not changed. In fact, the correlation between
currency and investor opinion may have actually intensified over the
past week as the US dollar is forced more surely into its role of top
funding currency while risk appetite maintains its bullish trajectory.
Over the past few weeks, we have seen a notable pickup in the hawkish
bearing of some of the Fed’s more prominent peers, which in turn leaves
the American authority in deeper relief with its steadfast outlook for
a mid-2010 return to tightening. Among the most notable central banks
ahead of the curve are the RBA, RBNZ, ECB and perhaps even the BoE.
While the Bank of England is still a long ways away from the milestone
hike, the market’s perception of a hawkish turn on QE has set the tone.
If the dollar has any hope of recovery in the near-term, risk appetite
will have to plunge or US market rates inflate. |
 |
A Closer Look at Financial and Consumer Conditions
| Speculators
and investors are still finding their way back into the financial
markets; but there are still serious doubts as to the stability that
exists for these eager market participants. The promise of capital gain
is still the primary draw for most as the more stable sources of income
in bond yields and equity dividends are still a long ways off.
Nonetheless, the capital turnover has revived liquidity to the market
and bolstered confidence – perhaps long enough for economic growth to
encourage capital investment and more permanent investments. However,
all it would take to bring the markets crashing down is a round of
profit taking or an unfavorable reaction to warnings that the
government is ready to remove the stimulus safety net. |
Like
the rest of the world, the United States economy is expected to report
positive growth in the second half of this year and really see its
recovery get underway in 2010 and beyond. However, as currency traders
know all too well, this is a relative game; and the strength of the
dollar depends on the pace of the US recovery compared to that of its
major counterparts. We will receive a definitive update on the nation’s
health next week with the advance reading of 3Q GDP. In the meantime,
the outlook is certainly measured. The Fed’s Beige Book offered reason
for concern. While the general consensus was that many areas saw
“stabilization” and “modest improvement,” labor markets were still
week, there was no wage growth and credit quality was eroding. |
The Financial and Capital Markets
| Optimism
among the world’s investors continues to rise – well, the influx of
capital from otherwise safe haven assets is keeping the markets buoyant
at least. It is important to differentiate between a true measure of
confidence and a natural adaptation of the market. The ICI’s Money
Market Funds Assets index dropped to its lowest level in a year; but
even after this steady, nine-month decline the gauge still shows $3.402
trillion on the sidelines. Much of this capital will eventually find
its way back into the speculative space; but if it hasn’t been
rediversified yet then those managing the funds are likely skeptical of
the aggressive bull run we have experienced so far this year and are
awaiting a true return of yield income. It is not a stretch to assume a
high percentage of the capital that has migrated back to equities and
other risky assets belongs to speculators and traders that are looking
to take advantage of the impressive capital gains since February. If
this is the case, then a correction could easily encourage a broad wave
of profit-taking. A reversal is just a matter of time; but depending on
when it takes place, the impact can be very different. Given enough
time for dedicated capital to return to stabilize the market, the
pullback could be mild. Alternatively, a turn when speculative funds
define the market could trigger a plunge. |
 |
A Closer Look at Market Conditions
| The
bullish trend behind the market’s most high profile benchmarks is still
intact; but the progress these securities are making is growing
strained. The Dow Jones Industrial Average produced a new high today at
10,119.47; but the session would actually end the day in the red and
maintain congestion that has been building for a week. It seems the 3Q
earnings session is finding a more skeptical crowd this time around as
the realities of medium-term growth set in. A moderate recovery also
has its tempering effects on commodities. Crude set a new 14 months
high today; but supplies are ballooning and demand is shrinking with
limited expansion on the horizon. |
For the most
part, fear and volatility within the market continues to deflate. The
standard measures of activity are at or near yearly lows and the steady
influx of capital is padding the winning sense of capital returns.
However, this complacency suggests the makings of trouble. With fear
gauges steadily declining and positioning measures showing an
increasingly one-sided market (behind bulls), the imbalance will
eventually have to be corrected. When the profit taking starts, it will
likely be relatively staid at first; but the sheer interest in assets
that bear no interest, just the hope of capital return, could easily
incite panic of evaporating profits. This reversal may be closer than
many expect. |
Written by: John Kicklighter, Currency Strategist for DailyFX.com
Questions? Comments? Send them to John at jkicklighter@dailyfx.com
| 
