U.S. Dollar: Fed Speaks the Truth

Currency markets completed a volatile day after Ben Bernanke indicated that discount rates could rise faster than expected. The Fed chairman's comments immediately pushed the dollar higher. However, much of his influence faded by afternoon trading. Commodity currencies weathered the storm relatively well with slight declines in the aussie and kiwi and significant strength in the loonie. However, the biggest loser of the day is by far the British Pound on signs that the BoE might consider adding to asset purchases after all.

Bernanke Spells it out

Today's Bernanke testimony was meant to tackle issue such as exit strategies - but accomplished much more than that. In an unusually candid look into the mind of a central banker, Bernanke spelled out his plans both for rates and exit strategies. What really hit markets first was the comment that a hike in the discount rate may be on its way "before long". The discount rate is the rate charged to banks for loans directly from the Fed. Bernanke even noted his considerations of using it to replace the Fed funds rate as the key metric to establish monetary policy. However, as to not infer his comments on foreshadowing a shift in Fed opinion, Bernanke reiterated his intention that rates be kept low for an "extended period" and that changes in the discount rate should not be correlated with a change in the monetary outlook. While the Fed chairman may have stopped short of more hawkish comments, the new initiatives do signal the next steps in moving away from historically low interest rates. Bernanke may be able to hike the discount rate without much impact to the overall system because such loans have declined dramatically since the worst days of the crisis. He may be warming us up for a larger change. On exit strategies, Bernanke warned that markets should not anticipate any MBS sales in the "near-term". In any event, once the Fed deems ready, they will implement the exit at a "gradual pace" and test tools on a trial basis before committing to a full-fledged program. In a separate statement, Fed President Fisher addressed the situation with a bit more haste, saying that they "must find ways to unwind the Fed's much expanded balance sheet."

All Eyes on Retail Sales

Today's Trade figures were less than encouraging. The monthly deficit expanded to the largest in about a year, as strong imports trumped gains in exports. Nevertheless, export growth has still been relatively healthy and rose to a fifteenth month high in December. Furthermore, the 2009 trade deficit actually narrowed to its most manageable levels in nine years. The next focus for traders will have to be the Retail Sales report. Even though the figure tends to be volatile, the latest ICSC report and results from individual retailers beat estimates and may add to the impetus behind a better number. However, it is important to keep in mind that continued snowstorms in the US have led to less than optimal shopping conditions and according to Redbook, retail sales actually declined. With little else on the economic calendar for the rest of the week, the Retail Sales report could set the tone for Thursday and Friday trading.

EUR/USD: GREEK AID MAY BE ON ITS WAY

The EUR/USD suffered another pullback as traders try to sort out the potential implications behind a bailout of Greece. Apparently EU guidelines that restricted talks of an aid package for the country were more flexible than previously thought. Speculation that Greece would be provided a package swept through markets on comments made by German Finance Minister Schaeuble, who suggested that their assistance to the fledging country may be more substantial than simply providing loan guarantees. His comments were followed by Oli Rehn, the EU Economic Affairs Commissioner, who noted that "we are talking about support in a broad sense." Germany's Foreign-Affairs Spokesman also confirmed that Angela Merkel's administration was considering the matter. It is expected that the specifics could be outlined as soon as tomorrow at a summit planned in Brussels. As a result of today's newsbreak, Greek credit default swaps took a nosedive to a two-week low. However, the assistance package will likely carry many strings attached that will require the country to take much more aggressive actions in securing the country's fiscal dilemmas. In the end, they may wind up sinking the country into a deeper recession than what it is already experiencing. Nevertheless, there appears to still be some uncertainty among traders as to whether the deal will materialize as the euro continues to flounder. Today's data calendar showed weaker Industrial Production in both France and Italy. Tomorrow's schedule will also be relatively light with the release of German Wholesale Prices and the ECB's monthly bulletin.

GBP/USD: BoE IS KEEPING OPTIONS OPEN

The British pound nearly erased all of yesterday's gains against the dollar as the currency sinks against all major currencies. The fallout was precipitated by today's BoE Quarterly Press Conference, which signaled that the BoE has abandoned little of its dovish rhetoric that persisted in late-2009. Mervyn King, the BoE's Governor, said that it is "far too soon" to put an end to the banks asset purchases. Accordingly, the bank leaves its "options open" in future decisions. This comes as a shock to many who were not only assuming that purchases had officially ended, but even anticipated signs of something in-line with an exit from the banks accumulated assets. King's chief concern, as shown by today's release of the bank's Quarterly Inflation Report, is that prices dipped sharply below the BoE's targets. The BoE Governor noted that "spare capacity will press down on inflation in the short-term." Not only did today's inflation report post a downward revision to inflation expectations, it did the same for the bank's growth outlook. It is becoming more and more apparent that the bank has little confidence in the sustainability of the British recovery. Unfortunately, today's shock erased the impact that better Manufacturing Production numbers may have otherwise had on markets. The report showed that manufacturing output increased by 0.9%, thereby tripling expectations. The boost was thanks in part to the weak pound, which has made it easier for exporters to sell manufactured goods abroad. Tomorrow's event list remains devoid of any market moving U.K. events.

AUD/USD: BAD DATA REINFORCES WAIT AND SEE ATTITUDE ON RATES

The Australian and New Zealand dollars posted modest declines, showing significant resilience in spite of signs that suggest the Fed could tighten sooner than expected. Meanwhile, the Canadian dollar reversed earlier declines, posting sharp gains against the U.S. dollar for the second day in a row. Nevertheless, today's series of data from across the commodity currencies does not necessarily support the case for their resilience. Australia reported two pieces of bad data, cumulatively taking a toll on expectations for continued RBA rate hikes. The Westpac report on Consumer Confidence was the first event out of the gate and showed a sharp decline to -2.6% from the 5.6% reported last month. It is expected that deteriorating sentiment is more closely related to global events rather than any significant national troubles. Home Lending followed with a steep 5.5% decline, giving the impression that the higher RBA target is already starting to strain homebuyers. Overall, today's report indicates that the "wait and see" attitude that the RBA adopted at their last meeting may indeed be the most appropriate stance going forward. Tonight's Australian employment report will play a big part in shoring up concerns about confidence. Unfortunately the construction sector may be the only part of the economy that has experienced positive job growth. The employment components of both the service and manufacturing PMI reports contracted which point to job losses. Canada continued where Australia left off, reporting a widening trade deficit. Today's report confirms that the country posted its first annual deficit in more than a quarter-century. It seems safe to say that the continued run up in the Canadian dollar may be at fault. Canada will be reporting its New House Price Index tomorrow. New Zealand will release Business PMI overnight.

USD/JPY:  RECOVERY HOPES COME ALIVE

USD/JPY recorded subdued strength despite all out gains in Japanese data. The yen was relatively mixed across the currency spectrum, showing only a slight upward bias. Today's list of economic indicators was very impressive, signaling that the country may have entered the stages of a more forceful rebound. The most promising release of the day showed that Machinery Orders increased 20.1% after declining by 11.3% last month. This marks the strongest surge in the index in nine years, which definitely bodes well for recently sluggish levels of capital spending. In addition, the fact that Chinese imports rose by a record 85.5% definitely does not hurt matters. There was also the report on Housing Loans that rose to 1.6%, doubling last months figure to reach a three-month high. The Domestic Corporate Goods Price Index rose to 6-month highs, a surprising feat considering deflationary problems. While things are definitely starting to look better, yen traders still have to be wary of continued woes stemming from Japanese automakers, which has now extended its reach to Honda.

AUD/USD: Currency in Play for Next 24 Hours

 

AUD/USD will be the currency pair in play for tomorrow. For Australia, we are paying special attention to the release of the employment report at 7:30 pm ET or 00:30 GMT. In addition, we will also be met with Inflation Expectations at 7:00 pm ET or 00:00 GMT. The US will be providing its report on Retail Sales at 8:30 am ET or 13:30 GMT.

AUD/USD enters the Bollinger band range-trading zone for the first time since late-January. The pair posed a strong late-day rally that negated almost all earlier losses. Support stands at 0.8733 or the low form December 23rd, which pushed prices higher after today's lows were reached. The first zone of resistance for the aussie to face is at the 0.8800 level, which should provide psychological importance. Next is the 38.2% retracement from mid-January highs to February lows at 0.8865. Today's rebound may signal a new shift in momentum to the upside.