Foreign Exchange News
19 September 2013

Dollar Plumits as Fed Shocks Markets

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EUR/USD 1.3547
GBP/USD 1.6128
GBP/EUR 1.1904 (0.8401)
EUR/CHF 1.2332
GBP/CHF 1.4683
GBP/AUD 1.6953

One of the largest economic events of the year has resulted in a shock to markets as the Fed have back tracked on their forward guidance initiative and failed to reduce their current stimulus program. This resulted in the USD suffering its biggest slide in 14 months as investors looked to offload their USD positions in the face of further USD weakness. The positive side of this is the promise of further loose monetary policy which has seen stocks surge to fresh highs with emerging markets and higher yielding assets also surging.

Since May, market expectations have built towards a taper in September, part of the conditionality of the Fed was to see growth in the economy and an improving labour market. Despite achieving this, albeit at a slower pace than hoped, the Fed failed to reduce their quantitative easing and have caught the market by surprise. We outlined three possible scenarios in yesterday’s commentary, our view was with the market consensus that we would see $10-15 bln in purchases cut, with further reduction guidance provided.

The least likely scenario priced by the markets was for there to be no reduction at all, the recent run of weaker than expected data from the US had seen some shift their view; however economic polls conducted indicated less than 20% felt the Fed would take no action. Where does this leave us now?

The Fed have not pulled tapering from the table but they need to see steady improvements in the economy, they have downgraded their GDP forecasts for 2013, with the interest rate guidance for cuts in 2015 pushed back several months now. All this means interest rates will remain lower for longer, there is still a possibility for a taper before the year end but it is vital that the economic data from the economy is showing signs of improvement. This move by the Fed has once again brought back talk of currency wars and central banks devaluing their currencies.

The UK is currently showing positive economic signs and the BOE have been trying to assure markets they see rates at current levels until 2015/16, however they are fighting the market view as real interest rates rise, this may mean the BOE will have to act. The BOE minutes released yesterday saw no sign of any shift from the BOE, with voting 9-0 to keep asset purchases and the interest rate unchanged.

UK retail sales are due this morning and a strong reading will see further signs of encouragement for GBP. August sales are expected to have remained flat at 0% but the year on year figure is expected to rise from 3% to 3.3%. There is very little of note from Europe, riots in Greece may cause some concern, but the Eurozone has tended to ignore weak threats to its security. There appears to have been some stabilisation in Italy as Berlusconi’s threat to the coalition appears to have subsided somewhat.

We have seen plenty of corporate buyers of USD up at these levels with orders above 1.3400 and 1.6050 in EURUSD and GBPUSD respectively filled overnight.

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