Forex Trading Weekly Forecast

• US Dollar Outlook Unfazed by Worst Economic Contraction Since 1982
• Euro On The Edge Ahead Of Pivotal ECB Rate Decision
• Japanese Yen May Finally Break From Its Range As Risk Trends Swell
• British Pound Outlook Hinges on BOE Rate Decision, Policy Statement
• Swiss Franc Looks For Direction From Safety Flows, Data
• Canadian Dollar Holds Up Despite Dismal US Economic Data
• Australian Dollar Likely to Fall on Economic Data, Risk Aversion
• New Zealand Dollar To Weaken Further As Growth, Labor Deteriorate

US Dollar Outlook Unfazed by Worst Economic Contraction Since 1982

Fundamental Outlook for US Dollar: Bearish

• US Dollar finishes relatively unchanged despite massive S&P rally
• Federal Reserve running out of room to boost economy - what's next?
• Markets react positively to dismal US GDP decline, but outlook remains dim

News of the worst US economic contraction in 26 years was not enough to keep the dollar at bay, as the US currency posted gains against the euro and other major counterparts to end the week's trade. A fresh record-high in US unemployment insurance claims, continued all-time lows in interest rates, and an absolutely dismal capital expenditures report had similarly little effect on the dollar. One has to subsequently wonder whether otherwise significant economic data will have any real influence on the dollar through the foreseeable future. Friday's highly-anticipated GDP report showed that the economy contracted at a much slower pace than feared, but a closer look at the details showed that future prospects remain dim. Perhaps the most troubling detail came from the typically resilient American consumer. Nominal consumer spending fell at a dramatic 8.9 percent annualized pace through the fourth quarter - the worst result in the survey's 51-year history and an ominous sign of what to expect through 2009.

Fundamental outlook for the US economy remains poor, and such bearish sentiment would normally be enough to send the dollar significantly lower against major counterparts. Yet it is clear that markets are currently not "normal" by any stretch of the imagination, and fear-driven capital flows seemingly dominate exchange rate movements. We will subsequently watch for cues from highly risk-sensitive equity markets and US Treasuries; the dollar's correlation between the Euro/US Dollar and US S&P 500 remains near its highest levels on record. That being said, the upcoming week of US economic event risk is relatively unlikely to provide a boost for downtrodden US stocks.

End-of-week US Non Farm Payrolls data is expected to show that the domestic labor market lost yet another 500,000+ jobs through the month of January - further reminder of the financial crisis' effects on real economic growth. It will be important to watch earlier-week economic data to gauge overall expectations for the infamous NFP's report, however, as key ADP Employment Change and ISM Services reports are typically leading indicators for the volatile jobs report. Suffice to say, it will take a noteworthy surprise in either ADP or ISM data to force a substantive shift in expectations. Otherwise, it may be important to watch for surprises in earlier Personal Income and Spending data. Short-term outlook for the US economy remains bleak, but whether or not the US dollar responds in kind is another matter entirely. - DR

Euro On The Edge Ahead Of Pivotal ECB Rate Decision

Fundamental Outlook for Euro This Week: Bearish

• Euro Zone inflation slumps to a near 10-year low 1.1 percent, clearing the way for further ECB rate cuts
• Fundamentals continue to break down for the euro, shaking the currencies subtle safe-haven appeal
• Forecasts steadily worsening for Europe as growth outlook dims, policy efforts come up short and government debt is cut

Next week, there are a top-tier economic indicators scheduled for release; but among them only the European Central Bank's (ECB) rate decision has the potential to fundamentally redefine its currency's trend. Looking back only six to eight months ago, FX traders were pushing the euro higher on the belief that the Euro Zone would be able to ride out the financial and economic contagion that was spreading beyond the US boarders. What's more, there was the implicit belief that the region's yields would remain a beacon for investors looking for safety of funds with the kind of returns that traders had become used to through 2007. How things have changed. Much of this optimism has been wrung out of the euro; however, the currency is still not on even ground with the US, UK and its other major counterparts. Interest rates offer the best method to either validate or dispel these lingering doubts.

It is clear at this point that global interest rates are steadily heading towards a zero interest rate policy (with a number of notable economies already hitting this mark). This is an equalizing trend - one that has blatantly leveraged the demand for a safe haven and tipped the scales of risk / reward. And, in the panicked search for safety of funds, investors have targeted the depth and historical precedence that the US and Japanese markets; while European assets have been stung by being behind the global recession curve and through a lack of confidence in the young monetary union. However, the tables could turn. Should the European policy authority, ride out the rest of the economic slump (as a natural economic cycle it will eventually find a level of equilibrium) by holding their interest rates at a premium to global counterparts; forward-looking speculators will once again find the strength in the euro. In this capacity, Thursday's rate decision could either signal the bank will maintain its pace of easing and possibly bring its primary cash rate near zero in a few months time; or officials can break stride by keeping policy unchanged and indicate their intentions to maintain the economy's rate advantage. Why is there such heavy debate over their next rate decision; primarily due to ECB President Jean Claude Trichet's comments at the last announcement (and later reiterations) that the next ‘important' decision would be March's. This has led many to speculate that the group will hold in February to wait for updated growth and inflation forecast figures in March. However, these comments may have been referring to the importance in economic data rather than the potential for policy actions. Regardless, the outcome of this meeting will be critical, especially with EURUSD and EURJPY (risk sensitive pairs) on the verge of major technical breakdowns.

At the same time, it is very unlikely that the euro will remain still while it awaits a resolution on interest rate speculation. Indeed, there is plenty of scheduled and unscheduled event risk outside the policy meeting that will help fundamental traders bide their time - and perhaps redefine their long-term fundamental forecasts. On the docket, traders will be watching retail sales numbers from both the Euro Zone and Germany, as well as factory activity figures. Outside of the neat world of foreseeable risk, market participants will also be on edge looking out for any additional sovereign debt downgrades among its members as well as announcements of expanded stimulus and bailout activity. - JK

Japanese Yen May Finally Break From Its Range As Risk Trends Swell

Fundamental Outlook for Japanese Yen: Bullish

• A pull back in volatility may be the eye of the storm for investor sentiment
• Japanese employment, consumer sending, factory activity pushing economy deeper into recession
• Global interest rates quickly approaching zero, suggesting the eventual rebound will be a slow build for FX

Risk sentiment dominated the markets last week; and it will no doubt do so again next week. This is a promising trend for Japanese yen traders who are looking for volatility - and nail-biting for those that await a lasting trend. Among the major economic drivers for next week, half are scheduled and the other half are potential. From the impromptu column, there is still considerable uncertainty held over the health of the world's economic health and its financial markets. Policy officials have grown somewhat over-zealous in their attempts to force stability on the masses; and so far, they have failed to inspire confidence. Is this a sign that a certain dollar, euro or yen figure - one that investors are confident offers a full safety net on the global economy - has not been met? Realistically, there is no such number; and if there were, it would bankrupt the world governments. Fear has lasted because there is still significant exposure through leverage and credit; and investors (as well as consumers and businesses) will take any opportunity to unload that risk whenever they are given the chance. And, as interest rates tumble, government debt ratings come under pressure and global growth cools, the equilibrium between risk aversion and risk appetite will elude the market - putting a bottom to pessimism further out of reach.

These unspecified and unscheduled will remain the greatest threat to sentiment (and thereby the yen); but we will also find milestones for benchmarking these intangible factors along the way. Over the coming week, a few trends will be particularly important for deriving direction from the yen crosses. The most readily accessible driver will be interest rates. Three major central banks are set to announce their rate decisions over the period and each has its own place in the bigger scheme for risk. The Reserve Bank of Australia (RBA) is one of the few remaining, high-yield currencies out there; but a steady diet of hearty cuts has quickly lowered this benchmark and drug down the overall expectations for returns when things do turn around down. Another 100 basis point rate cut will lower the return side of the market's scales of risk/reward. The Bank of England's (BoE) forecasted 50 basis point cut to merely brings another key policy authority within reach of zero; which means officials will have to search out alternative policy methods. Finally, the ECB marks the dark horse, as uncertainty over its pace is shares a large responsibility in keeping expectations for an eventual return to risk appetite alive.

In contrast to returns, earnings and growth updates will gauge the level of fear in the market. While massive amounts of funds are being pumped into financial institutions and government guarantees are being stamped on corporate debt, we have seen the global recession put severe strain on earnings on the other vital sectors of the world's economies. As the damage is tallied, investors realize just how bad the outlook really is. As for growth, there are many indicators that will offer minor adjustments to such a prominent forecast; but it will be the US non-farm payrolls report that offers the accessibility and influence that event risk and long-term fundamental traders crave. Another contraction on par with previous readings will signal to all that there is little doubt that the first quarter of 2009 is going to be worst than the final quarter of 2008. - JK

British Pound Outlook Hinges on BOE Rate Decision, Policy Statement

Fundamental Outlook for British Pound: Bearish

• GfK consumer confidence tumbled to a 6-month low, savings intentions plunged to record low
• British pound benefited from surprise rise in UK mortgage approvals, Barclays news
• BOE MPC Member Blanchflower issues dovish comments, says BOE should cut rates "further and quickly"

The British pound was the strongest of all the majors last week, as the currency trades in a highly speculative manner and attempts to recoup the massive losses accumulated between October 2008 and January 2009. However, with both Credit Suisse overnight index swaps and a Bloomberg News poll reflecting expectations that the Bank of England will cut rates by another 50 basis points at 7:00 ET on Thursday to a new record low of 1 percent, it's worth wondering how far this British pound rally can extend.

There are few doubts that the BOE will at least consider slashing rates again since the UK remains in a deep recession and officials anticipate that things will only get worse. In fact, BOE Monetary Policy Committee Member David Blanchflower, who is easily the most outspoken and dovish member on the Committee, said on January 29 that the UK economy may face a recession worse than that of the one in the 1980's and that the Bank Rate needs to be cut "further and quickly." Furthermore, he said that the MPC has considered their options in the case that the Bank Rate is cut to zero, which was quite timely comment when you consider that Chancellor of the Exchequer Alistair Darling gave the BOE permission today to buy 50 billion pounds worth of bond and commercial paper in order to alleviate tight credit conditions. Overall, this leaves the odds in favor of year another rate cut by the BOE on February 5, but the reaction of the British pound may depend on what sort of bias is reflected in the Monetary Policy Committee's subsequent statement. As we saw with the reaction of GBP/USD to the BOE's last rate cut, rallies in the pair are possible if the MPC leaves no indications that they will cut rates further. On the other hand, suggestions that the markets are correct to price in additional reductions could send the British pound the way of the New Zealand dollar following the RBNZ's rate decision on January 28: down. - TB

Swiss Franc Looks For Direction From Safety Flows, Data

Fundamental Outlook for Swiss Franc: Bearish

• The UBS Consumption Indicator Rose for the first time in three months to 1.15 from 0.96 in November
• The KOF Swiss Leading Indicator Dropped to A Record Low of -0.87, Signaling Further Economic Contraction

A bout of risk appetite to start the week saw the dollar weaken and sent the USD/CHF fall back below the 50 and 100-Day SMA's. However, since then the pair has continued its upward trend as concerns over the global economy have reignited bullish dollar momentum sending back above the technical indicators. The KOF Swiss leading indicator falling to an all-time low didn't help Swiss France bulls as it increased the chances that the SNB may intervene in weakening the currency. The export driven nation has seen demand for its exports fall and a strong currency will only make its goods less attractive. SNB's Vice chairman Phillip Hildebrand recent statements that the central bank may intervene in order to prevent deflation were supported by Swiss Finance Minister Hans-Rudlof Merz on Friday which added to the Francs weakness. However, the rhetoric may be an attempt at verbal intervention which the central bank is known to attempt. Additionally, SNB President Jean-Pierre Roth statements that he has yet to see an "overshooting " of the Swiss Franc lessons the likelihood of action from the central bank, which it hasn't done since 1995.

The economic calendar doesn't typically impact price action as the pair has traded more on risk sentiment. However, that correlation has weakened which may increase the influence of fundamental indicators. The unemployment rate is expected to rise to 3.0% which would be the highest since March, 2007 as companies continue to layoff workers to cut costs. The demand for Swiss exports continues to fall and the upcoming trade balance report should reflect the impact of the global downturn. The SVME-PMI indicator is expected to fall to 36.0 signaling that manufacturing activity will contract for a fifth month. Evidence that further weakness in the economy is inevitable may fuel speculation of intervention from the SNB which will add to the Swiss Franc's current weakness.- JR

Canadian Dollar Holds Up Despite Dismal US Economic Data

Fundamental Outlook for Canadian Dollar: Bearish

• Canada announces its own fiscal stimulus package
• Loonie outlook versus Japanese Yen could turn bullish
• Canadian employment report is one of top five events of the coming week

The Canadian dollar was one of the few currencies to finish marginally higher against the US Dollar through past week's trade. A steady stream of bearish US and Canadian economic data would have normally been enough to sink the CAD, but the Loonie held firm even in the face of Crude Oil price declines. Much like its US namesake, the Canadian Dollar was relatively stable despite disappointing economic developments. Friday's Gross Domestic Product report showed that the Canadian economy contracted at its fastest monthly rate since 2003 - much worse than expected. Yet we saw the USD/CAD drop noticeably on the simultaneous US GDP result, and the Loonie seemingly brushed off further economic disappointment. That being said, Canadian dollar fundamentals remain relatively bearish. The trade-dependent economy shows little hope for recovery in the face of a substantial global economic slowdown.

The week ahead may nonetheless prove important for economic expectations and the Canadian dollar, with key industrial and employment data due within a two-day stretch. The Ivey Purchasing Managers Index is forecast to show further deterioration in domestic business spending on a sharp contraction in demand. A same-day Building Permits report explains a good deal of the contraction; demand for new housing plummeted in November and few expect any meaningful improvement through December. All the same, it will be important to gauge market reactions to the releases and general Canadian Dollar sensitivity to swings in the data. The following day's Canadian employment report will likely generate substantial Canadian Dollar volatility - especially coupled with the US employment report that same morning. Consensus calls for further sharp deterioration in both Canadian and US labor markets, but it is unclear what effect the reports may have on the USD/CAD currency pair. Regardless, it will likely be another volatile week of currency trading. - DR

Australian Dollar Likely to Fall on Economic Data, Risk Aversion

Fundamental Outlook for Australian Dollar: Bearish

• Westpac Said Australia to See First Recession Since 1991
• Business Confidence Rebounds From Record Low in December
• Australian Consumer Prices Fell Most in Since 1997 in Q3

The Australian Dollar faces a triple threat next week as a heavy load of negative economic data and renewed flight from risky assets combine with bearish technical positioning to put downward pressure on the exchange rate. Looking at the calendar, the headline release is undoubtedly the interest rate decision from the Reserve Bank of Australia. Economists' forecasts call for a 100 basis point cut to bring rates to 3.25%. Looking at overnight index swaps, priced-in market expectations agree with this assessment. Further, long-term bets on the scope of monetary easing have jumped a hefty 20.2% this week, with traders now expecting the RBA to slash borrowing costs by 200 basis points over the next 12 months. Former RBA chief Bernie Fraser also called for benchmark rates to head below 2%, saying the current recession will be "deeper and longer" than the last downturn in 1991.

Elsewhere on the docket, Retail Sales are expected to rebound, adding 1% through December having expanded just 0.4% in the preceding month. An up-tick is to be expected: the series of aggressive interest rate cuts (totaling 3% since September), a fiscal stimulus package worth A$45 billion, and the sharp drop in oil prices (down close to 70% since peaking in July) all contributed to breathing some life into consumer spending and even helped to modestly improve business sentiment. HIA New Home Sales could well follow the same trajectory, especially considering that a decent portion of the government's handout was targeted at first-time property buyers. Still, traders may see the effects of these policies losing steam in the months ahead as rising unemployment threatens to weigh on disposable incomes and prompt cautionary saving. Indeed, consumer confidence slipped -2.2% in January, the first decline in three months. The trade balance is expected to continue to weaken in December as the global economic slowdown erodes overseas demand. The International Monetary Fund said last week that global economic growth will come to a "virtual standstill" in 2009 to yield just 0.5%, the lowest yet in the postwar period, threatening to substantially prolong the economic plight of export-intensive countries. The House Price Index rounds out the week's event risk, with the metric likely to shrink -2.4% in the fourth quarter, the first negative reading in at least 6 years.

Turning to risk sentiment, the MSCI Index of world stock performance reversed close to 80% of the three-day rally started Monday by the end of the trading week. Shares initially got a boost from as US policymakers moved closer to passing a $819 billion stimulus package and rumors of a "bad bank" scheme to get toxic mortgage-linked assets off banks' balance sheets flashed across the wires. The upswing faltered as a round of fresh batch of dour US economic releases (Durable Goods and Gross Domestic Product in particular) shifted the focus back to current turmoil. Next week sees a blistering US calendar packed with market-moving releases and culminating in the ominous Non Farm Payrolls report, suggesting risky assets will remain on the defensive. Traders have treated the trajectory of the US economy as synonymous with that of the world at large, expecting a rebound in the world's largest consumer market to have positive spillover elsewhere.

Finally, the technical outlook is decidedly bearish: AUDUSD has dropped to close the week below key support near 0.64, opening the door for a decline to test recent major lows (10/27/08 and 11/20/08) above the 0.60 level.

New Zealand Dollar To Weaken Further As Growth, Labor Deteriorate

Fundamental Outlook For New Zealand Dollar: Bearish

• RBNZ lowers cash rate by 150bp to 3.50% amid expectations for a 1% cut
• Trade deficit widens to -NZ$5.6B as exports falter
• Credit card spending falls for second month

The New Zealand dollar weakened against its currency counterparts as the Reserve Bank of New Zealand lowered the benchmark interest by 150bp to a record low level of 3.50%, and the outlook for the higher-yielding currency remains bearish as the central bank is expected to continue its easing cycle over the coming months. As a result, the kiwi slipped to a seven-year low against the U.S. dollar this week, and is likely to hold its downward trend against the reserve currency over the following week as the economic calendar for the isle nation is expected to show a deepening recession. Nevertheless, as risk aversion remains a dominant theme across the financial markets, safe haven flows may continue to drag on New Zealand's exchange rate as investors continue to curb their appetite for risky assets.

After slashing the cash rate to its lowest level since 1999, RBNZ Governor Allan Bollard said that he see's room for lower rates as policy makers expect growth prospects to deteriorate further, but went onto say that he "would expect any further reductions to be smaller than those seen recently." The dour outlook held by the central bank suggests that they will in fact continue to lower borrow costs over the coming months in an effort to avoid a deep and severe recession, but as the economic outlook for the global economy remains bleak, the likelihood for improved growth remains doubtful as the International Monetary Fund anticipants global trade conditions to weaken further throughout the year. Nevertheless, Credit Suisse overnight index swaps are showing that investors expect the RBNZ to lower the key rate by nearly 100bp over the next 12 months, while a Bloomberg News survey is already showing that economists expect the central bank to cut between 50-100bp at their next policy meeting in March. Moreover, as fundamental trends continue to reflect a deepening recession in the $128 economy, the event risks scheduled for the following week will certainly dampen the appeal of the New Zealand dollar as labor conditions are expected to deteriorate further.

Looking ahead, private-sector labor costs are expected to grow at a slower pace during the fourth quarter as a result of lower input prices, and despite the underlying weakness in commodity prices, firms across the region are expected to cutback on employment as demands from the global economy falter. The jobless rate is projected to rise to a six-year high of 4.6% from 4.2% in the third quarter as payrolls are anticipated to fall 0.7% in the fourth quarter, and a weakening labor market would only reinforce the outlook for a deepening recession amid the extraordinary efforts taken on by the RBNZ. - DS

DailyFX

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