FOREX TRADING

The ISM non-manufacturing index increased to 55.4 in March, remaining in expansionary territory for the third consecutive month following readings of 53.0 and 50.5 in February. Market expectations going into today’s report were for a more modest rise to 53.6.

The ISM non-manufacturing index moved more firmly into expansionary territory in March, rising to 55.4 from 53.0 in February. The March level marks the highest reading for this index since May 2006. Business activity surged to 60.0 from 54.8 in February while new orders jumped up to 62.3 from 55.0 in the previous month. The employment index edged closer to expansionary territory, rising to 49.8 in March from 48.6 in February, its highest level since April 2008. With respect to inflationary pressures, prices paid climbed to 62.9 from 60.4 in February.

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U.S. Review

Economic Recovery Continues, but is it Enough?

• Economic indicators this week suggested continued economic growth. Factory orders, the Institute for Supply Management manufacturing index and employment all suggest continued progress.
• Yet the pace of the recovery still presents several fundamental challenges. First, construction spending is disappointing and for a society that has put so much emphasis on housing, there is a disconnect between aspirations and reality. Second, the pace of growth will not likely solve the budget shortfalls in many states or at the national level.

Economic Recovery Continues, but is it Enough?

Three important economic indicators this week suggested continued economic growth. Factory orders, the Institute for Supply Management Index and employment all suggested continued progress on the economic front. Factory orders increased 0.6 percent in February and the gain reported for January was revised higher. Factory orders have gained in 10 of the past 11 months and are now more than a third of the way back to where they were at their peak in July 2008. Specifically, new orders for non-defense capital goods ex-aircraft are up nine percent (annualized) over the last three months, consistent with our expectations for 8 percent or more gains in real equipment & software spending for this year.

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US Bond Yields Highest Since Last June

US 10 year bond yields traded at the highest level since June 2009 reaching a yield of 3.94% last week. The credit crisis sent ten year bond yields to a record lows in December 2008 as investors sought safety in US treasuries and the Federal Reserve lowered the Fed funds rate to a record low. The worst of the credit crisis has passed and bond yields are rising. Are bond yields rising because of optimism about the US recovery or because of concern about rising US debt? The answer to this question may be crucial to the outlook for the USD.

The US government reported a record $221bln monthly budget deficit in February. February marked the 17th straight month that the US government has posted a deficit. The Obama administration is forecasting 1.56trln deficit for 2010. US government deficits are projected at 1trln or more through 2020. Last week the U.S. Congress passed a health reform bill. The estimated cost of the health reform bill is just under 1trln over the next 10 years with the CBO estimating that the reform bill could reduce US budget deficit by close to $200bln in the next decade. Many analysts are skeptical that the health reform bill will reduce the deficit and warn that the health care bill could cost more than the government estimate. This may partly explain why it might not have been a coincidence that US ten year yields hit their highest level since last June after the announcement of the passage of the health reform. Additional deficit concerns include report that the US Social Security administration will for the first time pay out more this year than it takes in and last week the Obama administration unveiled new measures to help the unemployed reduce their mortgage payments. The revamped mortgage plan will expand the administrations $75bln foreclosure relief effort but it’s not clear by how much.

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Greek Bond Sale Successful

Despite ripping higher on the Asian open, EURUSD has spent the rest of the day consolidating between 1.3409 and 1.3508, with the DXY in slightly negative territory overall (DXY -0.35%). German regional and composite CPI data released in the morning was higher than expected with the EU harmonized HICP +0.6% MoM, +1.3% YoY (+0.3% MoM, +0.9% YoY expected). The effect on the currency space has been limited, with the key inflation measure for the Eurozone as a whole due on Wednesday. The only other significant release of the morning was Swedish Retail Sales which was extremely disappointing at -1.0% MoM, +2.3% YoY compared to median forecasts looking for +0.3% MoM, 4.2% YoY. The unexpected plunge in retail activity has understandably caused EURSEK to rally from 9.7400 levels prior to the release all the way up to 9.8000 levels shortly after.

The afternoon has been somewhat subdued with US PCE and Personal Income data coming out broadly in line with forecasts, and US equity markets modestly higher. The Greek sale of 7 year debt has proceeded without incident, with the head of the Public Debt Management Agency quoted as saying that they have now successfully “pre-funded the whole of April”.

Tomorrow’s main releases will be Norway’s Retail Sales, the final estimate of UK Q4 GDP, and US Consumer Confidence.

AC Markets
http://www.ac-markets.com

Disclaimer: This report has been prepared by AC Markets (thereof ACM) and is solely been published for informational purposes and is not to be construed as a solicitation or an offer to buy or sell any currency or any other financial instrument. Views expressed in this report may be subject to change without prior notice and may differ or be contrary to opinions expressed by Salesperson or Traders of ACM at any given time. ACM is under no obligation to update or keep current the information herein, the report should not be regarded by recipients as a substitute for the exercise of their own judgment.

Weekly Economic and Financial Commentary

U.S. Review

Public Policy Grabs Center Stage

• Public policy dominated this week, with the passage of healthcare reform and confirmation the social security system would run into deficit this year contributing to disappointing Treasury auctions and higher bond yields.
• Advance orders for durable goods rose in line with expectations, but a large downward revision to January’s nondefense capital goods orders raises a red flag as to how strong capital spending will be in the first quarter.
• Sales of new and existing homes both declined in February, raising fears the incipient recovery in housing has faltered.

Strange Days in the Credit Markets

The bond market is the ultimate truth detector and its verdict on healthcare reform is the new law will be more costly than the Congressional Budget Office (CBO) estimated and budget deficits will be larger. The bond market was already on edge from the ongoing Greek debt saga and reports that Berkshire Hathaway and a handful of other businesses can now borrow more cheaply than the U.S. Treasury. The CBO confirmed the Social Security system would pay out more in benefits this year than it receives in taxes, something that was not supposed to occur until 2016. The Social Security shortfall means the Treasury will need to redeem the “special issue notes” issued to the Social Security trust fund, which will require the Treasury to sell real bonds, which has become more challenging in recent weeks.

The last few years have seen Treasury yields rise during the spring, triggering a whole new set of challenges. History looks like it will repeat itself this year, with the end of the Fed’s mortgage-backed securities purchases next week adding to the upward drift in yields. The supply of bonds coming to market will remain a challenge, with additional money needed to pay Social Security benefits and recapitalize Fannie Mae and Freddie Mac. Sovereign credit risk and worries about growing supply also extend to municipalities, which saw yields climb sharply recently.

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Consumer Prices in United Kingdom Unexpectedly Decline

Today, we have full support that inflation is indeed inline with the Bank of England expectations as Governor of the central bank, Mervyn King stated before that the rise in inflation rates is temporarily and a result of APF program, higher energy prices and the reversal of the VAT.

CPI for the year ending in February today we saw ease from the 14-month high of 3.5% to 3.0% which is lower than the projected 3.1% while on the month rose to 0.4% from the prior decline of 0.2%, which is worse than the expected 0.5%.

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The Week Ahead

Highlights

• Greek denouement looms
• RBI hikes, more coming from others
• SNB pulls the rug out from under EUR/CHF
• March 24 UK budget will be critical in pre-election positioning
• CAD–To parity and beyond
• Key data and events to watch next week

Greek denouement looms

FX markets continue to fluctuate broadly in recent ranges, turning with every twist in the ongoing Greek drama. Risk saw higher in the beginning of the past week as EU leaders appeared to be in agreement on a plan to provide an aid package to Greece. Then the German government indicated it could not legally support such a plan and that Greece should seek aid from the IMF, sending EUR/USD and most other risk assets lower into the end of the week. Then on Friday, EU Commission President Barroso confused matters further by advocating a standby financial aid mechanism of coordinated bilateral loans from Euro-area countries. The immediate Greek drama may be entering the final act, though, as next week’s EU summit is likely to see a definitive resolution one way or the other. If European leaders fail to reach an agreement, it will look very bad for Euro-area cohesion, exposing the fiscal vulnerabilities of other members now seen to be on their own, and likely see the Euro suffer as a result.

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Discount Rate Discussions Keeping Floor Under Bonds

Once again bond markets are having a hard time maintaining a rally after the Fed’s earlier stand on its policy of maintaining low interest rates. Dealers continue to mull the potential for a second nudge higher in the Fed’s discount rate, which is overhanging market sentiment. As much as investors want to see a continuation of near-zero interest rates the threat of increases at the Fed’s symbolic rate serves to remind fixed income investors that benchmark interest rates may not be going up today, but that’s the general direction at some unspecified point. The relief rally in the Eurozone that’s helped push yields towards record lows also appears to be running tired of the story that Greek woes will splinter the Eurozone.

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