Forex Market Update: USD Tumbles To New Lows Ahead Of Bernanke Testimony - Is There Anything He Can Say To Throw The Greenback A Lifeline?

CAD has been the strongest currency over the last few sessions on the new highs in crude oil. 0.9750 area support is fast approaching

MAJOR HEADLINES - PREVIOUS SESSION

Overnight developments:

• New Zealand Jan. Building Permits rose 3.3% vs. -3.9% drop in Dec.
• US Weekly ABC Consumer Confidence steady at -37
• Australia Q4 Construction Work Done fell -1.0% vs. +2.0% expected
• New Zealand Feb. NBNZ Business Confidence fell to -43.9 vs. -24.9 in Jan.

THEMES TO WATCH - UPCOMING SESSION

Key event risks today (all times GMT):

• Sweden Feb.Manufacturing and Consumer Confidence (0815)
• EuroZone ECB's Weber to speak (0900)
• UK Q4 GDP (0930)
• EuroZone ECB's Noyer to speak (1000)
• EuroZone ECB's Bini Smaghi to speak (1145)
• US Durable Goods Orders (1330)
• US Fed's Bernanke testifies to House on Monetary Policy (1500)
• US New Home Sales (1500)
• US Weekly Crude Oil and Product Inventories (1530)
• Japan Jan. Industrial Production (2350)
• Japan Jan. Retail Trade (2350)
• Australia Q4 Private Capital Expenditure (0030)

Market Comments

Inflation and a crisis of confidence in the Fed remain firmly in focus, after the very high headline and core PPI readings and tumbling consumer confidence from the US finally pushed the USD over the edge suddenly after the creeping sell-off late. As if the data wasn't enough, the Fed's Kohn last night added insult to injury and said he didn't expect inflation pressures to persist. The USD posted new modern historic extremes versus the EUR, CHF and NZD yesterday. Normally, one would expect high inflation data to give a currency a boost, but the focus here is on the Fed's lack of inflation-fighting credibility, so higher than expected inflation data is seen as USD bearish as the market shakes its head at the Fed's wan response and growth-only focus.

There is a growing drumbeat of concern on the inflation front that the chairman will really need to address today at his testimony in some way to avoid further loss of confidence in the Fed's credibility. Today's performance from the chairman will either stop this USD sell-off in its tracks due to some new tack in Fed rhetoric, or we will get the usual pabulum from Mr. Bernanke, who is fast becoming a kind of 'Anti-Volcker'. The latter would underline the idea that we stand at the cusp of a new leg of USD weakening. Possible targets higher would start around 1.5400 in EURUSD and some might even bandy about the idea of parity in USDCHF. Regardless of the testimony today, however, we note that a continued move in USD weakness would seem to require relative optimism elsewhere in the world (continued signs of inflation and rallying equities, for example) as this would support the idea of the US being the enfeebled and clueless giant of the market. Either way, we wonder in any case whether the big event today could offer a pivot point for carry trades or whether the carry trade/weak USD themes are inseparable. The USDJPY sell-off, for example, has been relatively moderate.

Other data yesterday seemed to underline the persistent divergence - if not to say decoupling - of US and European data, as the IFO confidence level registered a decent rise against expectations (we do note, however, a drop in the Expectations component of this survey, which kept it close to 2-year lows). Still, European data is sluggish at best. We note the enormous drop in French Housing Starts and Permits yesterday, the continued signs of shrinking consumer demand in Germany, and the imploding Spanish economy, which formerly provided a third of the EuroZone's growth. Still, the market is focused less on the overall relative economic trends and more on the inflation/Fed credibility theme.

Be careful out there today. The Fed testimony today is the so-called Humphrey Hawkins testimony, a semi-annual tradition stretching back to the late 1970's. It is the Fed's premiere platform for presenting its views on the economy and any new hints at policy going forward. Volatility is virtually guaranteed to be large today since we have just traded at new extremes in the USD. A look at the trading ranges for EURUSD for the last 10 HH days in the market over the last 5 years shows an average of 1.3 ATR of volatility - so we might expect 150+ pips of movement from high to low today.

Chart: USDCAD

CAD has been a star perfomer over the last couple of days as oil prices reach new heights. If the 0.9755 low from December gives way in USDCAD, the pair may focus on the next important Fibo retracement line at 0.9560. In the bigger picture, we look for signs of a reversal back higher eventually - but for now, the downside momentum is too hot to look for buying opportunities just yet.

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