Market Analysis and GBPUSD Analysis

Wednesday, December 31, 2008

We highlight here, on the last day of 2008, several key US economic indicators to highlight the dire plight of the US economy as a predicator for what is to come in the first quarter of 2009. In a year that saw record highs and record lows in equities, interest rates and currency valuations, it is important, we feel, to bring you the closing numbers of one of the largest and most significant economies in the world. The figures below represent the state of the US economy at the end of the 2008 cycle.

Existing home sales fell by 3.1% mom in October, and they might have declined again – albeit only slightly, due to the massive increase in foreclosures – from 4.98m to 4.95m in November. Pending home sales, which tend to lead existing home sales by 1 to 2 months, decreased in the previous two months, thus indicating that existing home sales’ downward trend has continued.

New home sales fell from 0.457m to 0.433m in October, the lowest level since February 1991. Another decline is forecasted again for November, to 0.415m, not least due to tight credit conditions.

The Conference Board’s consumer confidence rebounded from 38.8 to 44.9 in November, supported by significant declines in gasoline prices and the victory of Barack Obama in the Presidential Election. However, the recovery is likely to have been only temporary, as the situation on the labor market is deteriorating rapidly, adding to the worries about wealth losses and tighter credit standards. It is expected that consumer confidence would have declined to about 42.0 in December.

In contrast, the University of Michigan’s (UMI) preliminary consumer sentiment rose by 3.8 points in December. But only the assessment of present conditions improved, whereas expectations deteriorated further. We expect mounting job losses to have had a stronger impact on consumers than the continued decline in gasoline prices, and thus UMI’s final consumer sentiment for December may only reach 57.0, reducing the improvement to 1.7 points.

Personal income is expected to have all but stagnated in November, as aggregate weekly hours declined slightly and average hourly earnings only increased moderately.

Personal spending will have fallen significantly by about 1.4% as the deflator will be similarly negative, due to the plunge in gasoline prices in particular. Furthermore, consumer confidence is at very low levels and retail sales plummeted by 1.8% mom. Real personal consumption is likely to fall by an annualized 3.5% in Q4, roughly equaling the drop in Q3.


We've covered this one extensively in recent days. The Euro has rallied for good reasons: it has refused to join the competitive devaluation impulse launched so aggressively by the Fed and the Bank of England and it is one of the most liquid currencies outside the USD in a world that is very concerned about illiquidity. Its economic weakness has also been less vicious so far on the whole as well, even if there are very troubled spots. But the single currency's weaknesses may become much clearer in the New Year, including very likely bickering among the EuroZone members and the difficulty of coordinating policy among so many nations when the stresses of weak economies could make national agendas compete with the EU framework. We're also concerned about the state of play in European credit markets, when so much debt must be rolled over in 2009 and the banks in Europe as well, particularly their exposure to Eastern Europe. The EUR is overpriced in the bigger picture - look at shorting EUR vs. SEK and NOK as a potential value play in the New Year or shorting the EUR on a trade-weighted basis.


Even more ugly data out of the US yesterday (see above) with a larger than expected drop in home prices (not really surprising as this is oldish data from October, when the deleveraging panic was full upon us. Yesterday we discussed the idea that the December freefall in yields at the long end will likely aid a slowing of house price depreciation for the lower end of the housing market.) Consumer Confidence in December also posted a massive drop to a record low. This is a bit surprising considering the fact that the survey came after the US election, and after a huge additional drop in gasoline prices. Also, the other major surveys suggested a bit of stabilization. Still, this data is by no means a shock and speaks of the real economic pain being felt in the US economy. The mounting rate of job losses means that many are worried about their future as they see colleagues and relatives losing their jobs even if they haven't lost their own yet. The viral effect of employment insecurity is going to result in a massive continued contraction in consumption in 2009.


Forex Headlines and EUR Chart Analysis

Tuesday, December 30, 2008

What is going on?

  • Sentiment in the stock market is still negative after a dismal retail holiday season saw empty parking lots in malls across America the day after Christmas – usually a jam packed shopping day.
  • Crude oil is rising on the news of the tensions and fighting in Gaza
  • USD weakens vs. EUR as fear increases that data will show new U.S homes declined to the lowest level in more than 17 years.

The situation in Gaza has grabbed the headlines due to its potential effects on oil and the USD. If we glance over at the oil futures, the rally triggered by the conflict is surprisingly unremarkable and well within the norm for rallies within the overall downtrend. The rally in EURUSD yesterday, on the other hand, turned heads as the pair sliced all the way to 1.4350 before turning tail as the oil rally proved unsustainable and as EURJPY dove on an equity market sell-off in the North American session. Later, EURUSD backed up to 1.4100 as the move lower proved excessive and was likely aggravated by thin liquidity, a condition that will continue until the New Year gets under way. All in all, we have a compelling reversal formation in EURUSD based on the bearish daily candle, but need confirmation through the 1.3915 area lower as this area has managed to hold the pair for over a week now with multiple tests. The setup for EURJPY is similar, but we need to see the pair slice through 126.20 for further confirmation. For EURGBP, see the chart in the charts section below, in which we discuss the potential for trend exhaustion.


A year ago, parity in EUR/GBP was a distant fantasy. Now, traders attach more than 30% probability that the pair will rise above 1.00 within three months. But how severe is the situation for the pound? Why has sterling ended up being the least wanted G10 currency in 2008? What would it take to push sterling the final step above the ‘magic’ parity? Is it likely to happen?

We conclude that another downward revision of UK growth prospects relative to the Euro zone, or an adoption of quantitative easing from the Bank of England’s Monetary Policy Committee, another downturn in financial equities, or a further rise in implied FX volatility could potentially push EUR/GBP beyond 1.00. However, we believe that such an erratic move would not prove long-lived.


Despite intra-day rise to 1.4135, the subsequent retreat suggests consolidation with a bias towards the downside. Note that EUR/USD is still staying well within inner rising channel and the rise may still continue. Anything above 1.4719 will put focus back to the 1.4867 key resistance level. On the downside, below 1.3937 minor support will indicate that a fall from 1.4719 is still in progress for the 1.3629 cluster support. A break there will turn short term outlook bearish for decline towards a 1.2329 low.

In the bigger picture, a medium term bottom is no doubt in place at 1.2329 and fall from 1.6038 should have been completed. Such a decline could either be viewed as being a three wave sequence that's completed at 1.2329 or a five wave sequence that's completed at an very orthodox low at 1.2423. In either case, as long as the 1.4867 resistance level holds, such a fall from 1.6038 is still the favorable choice. Though, some larger scale consolidation could be seen first. However, anything above 1.4867 will dampen the bearish view and argue that a stronger rally would be seen to retest 1.6038 the record high.

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