Contributed By: DailyFx

 

USDCAD - The ratio of long to short positions in the USDCAD stands at 4.84 as nearly 83% of traders are long. Yesterday, the ratio was at 1.81 as 64% of open positions were long. In detail, long positions are 44.9% higher than yesterday and 38.9% stronger since last week. Short positions are 45.9% lower than yesterday and 45.9% weaker since last week. Open interest is 12.5% stronger than yesterday and 102.6% above its monthly average. The SSI is a contrarian indicator and signals more USDCAD losses.

Contributed By: DailyFx

 

USDCHF - The ratio of long to short positions in the USDCHF stands at 1.77 as nearly 64% of traders are long. Yesterday, the ratio was at 1.48 as 60% of open positions were long. In detail, long positions are 1.4% lower than yesterday and 10.7% weaker since last week. Short positions are 17.5% lower than yesterday and 12.3% weaker since last week. Open interest is 7.9% weaker than yesterday and 81.6% above its monthly average. The SSI is a contrarian indicator and signals more USDCHF losses.

Talking Points

* Japanese Yen: Benefits From Rise In Risk Aversion
* British Pound: Weakens For The Eighth Day
* Euro: Inflation, Unemployment Hold Steady
* U.S. Dollar: Consumer Confidence, S&P/Case-Shiller Home Price Index on Tap

Fears surrounding the outlook for Portugal and Spain pushed the euro lower throughout the overnight trade, and the single-currency may face increased headwinds going into December as the risks for contagion intensifies. Ireland’s Justice Minister, Dermot Ahern, said members of the European Central Bank pressured the ailing country to request a bailout during an interview with a local broadcast station, and argued that the ECB is “doing the same with Portugal now” as the central bank tries to restore market confidence. At the same time, market participants speculate Spain will ultimately share the same fate as Ireland as the government faces rising borrowing costs, and the ongoing turmoil within the European financial system could lead the central bank to maintain the expansion in monetary policy throughout the beginning of the following year as it aims to balance the risks for the region.

As the headline reading for inflation holds at an annualized rate of 1.9% in November, with unemployment at its highest level since 1998, the ECB is likely to keep its exit strategy on pause later this week in order to encourage a sustainable recovery. We expect ECB President Jean-Claude Trichet to talk down the risks for contagion at the press conference tomorrow, but comments from the central bank head may fail to encourage a rebound in the exchange rate as market sentiment falters. As a result, the EUR/USD should continue to retrace the advance from September, which would expose the 23.6% Fibonacci retracement from the 2009 high to the 2010 low around 1.2620-40, but there could be a small correction before we see anther selloff in the exchange rate as the recent decline remains oversold.

The British Pound extended the decline from the previous day as investors continued to scale back their appetite for risk, and the GBP/USD may face increased selling pressures going into the North American trade as it searches for support. However, as the relative strength index holds above oversold territory, there could be a corrective retracement in the pound-dollar following the eight-day losing streak, but the uncertainties surrounding the European debt crisis could generate additional selling pressures for the pair as risk trends continue to dictate price action in the currency market. As the GBP/USD breaks out of the upward trend from May, the sharp reversal in the exchange rate could lead the pair to fall back towards the 200-Day moving average at 1.5347 as it looks for support, and the British Pound is likely to depreciate further throughout the day as equity futures foreshadow a lower open for the U.S. market.

The greenback advanced against most of its major counterparts on Tuesday, while the USD/JPY halted the four-day advance as the Japanese Yen rallied across the board, and the recent rally in the dollar may gather pace in December as the reserve currency benefits from the flight to safety. Nevertheless, the major currencies are likely to face increased volatility later today as the economic docket is expected to show home prices in the U.S. contract another 0.40% in September after falling 0.28% in the previous month, but a rise in consumer confidence could spark a shift in market sentiment as the outlook for future growth improves.

Contributed By: DailyFx

 

The dollar index posted its third-straight weekly gain on Friday as it climbed back above the psychologically important 80.00 level. The euro was under intense pressure as sentiment continued to be weighed down by Irish and Korean tensions. Investors also fear that there is a very real contagion risk, suggesting that Spain and Portugal may not be as safe as their officials may suggest in public comments, finding little relief in the Irish bailout package. As long as euro-area debt concerns keep the single currency under pressure we are likely to see the index continue to climb as investors seek safety. Price action in the final few sessions of last week and the first few of this week should be taken with a pinch of salt sicne liquidity is still very low making moves somewhat exaggerated.

Contributed By: DailyFx

 Milton Friendman once said that inflation is always a monetary phenomenon. This statement is true in the longer run. In the short term, the relationship can be more complicated. Inflation in China has become a threat to social stability, the government is responding with a combination of monetary tightening and price controls. While these measures may calm inflation fears among the masses for the time being, the fear may come back with a vengeance if the measures fail to achieve the stated purposes.

China’s economy is inflation-prone. As a large developing economy, the need for money is constant. The system tends to accommodate such needs through monetary expansion. That is why China was full of high-inflation episodes in the 20th century. The impact of monetary expansion on inflation varies under different circumstances. Economists usually call this factor the velocity of money. However, it is more complicated in reality than just how fast money circulates, since money circulation can be biased towards or against consumer-price-index related goods and services.

China had an unusual deflation period from 1996-2004, labour surplus and low prices of natural resources, especially oil, were the key factors. The reform of the state-sector drove millions from it into the labour market, baby boomers from the 1950-70s continued to pour into the labour market and the productivity gains in the rural sector pushed the rural labour force into the urban and industrial sectors. The massive surplus of labour kept wages stagnant despite rapid labour productivity increases, triggering declining prices of manufacturing goods inside China and out. As mentioned above, it was the low and declining prices of natural resources that kept China’s manufacturing expansion from becoming inflationary during this period. The reason behind this drop in natural resource prices was due to falling demand from the ex-Soviet bloc in Eastern and Central Europe, Russia and Central Asia. Their economies were resource intensive and depended on trade within the Soviet bloc. It dissolution led to a sustained contraction in their demand for natural resources for the best part of a decade and a half. Their reduction in demand offset China’s increase in demand, which kept prices low.

When an economy is biased towards deflation, monetary expansion doesn’t lead to inflation in the short term. As mentioned, the velocity of money is low in such an economy. Furthermore, the money during this era circulated disproportionately into property, a property bubble emerged because the money supply was rising rapidly and didn’t go into CPI-related goods and services.

Around 2004/5 the situation changed and China’s labour market became balanced, pockets of labour shortages even started to appear, especially in the export sector. Coupled with rises in raw material prices as demand picked up in Russia and other former Soviet-bloc economies as their economies began to grow again. The market conditions became biased towards inflation, meaning that monetary growth would cause CPI inflation, leading to China’s serious inflation problem in 2007. The government decided to raise interest rates and resorted to price controls to contain inflation.

The global financial crisis interrupted China’s inflationary trend and many analysts interpreted the situation as proof that inflation was never a lasting problem and China was still deflationary due to overcapacity. Such thinking led to a massive 78% increase of money supply in three years. The financial crisis, in our opinion, was a temporary shock that decreased China’s inflation by reducing the prices of natural resources, as soon as the situation in the global economy stabilized in 2009, the trend of rising prices of natural resources and labour continued and because China added so much money in an inflationary economy, the current inflation problem is much bigger than in 2007, and it will take many years for the effects to burn off.

It is too late for China to try and push inflation back, what is needed now is action to safeguard stability during this inflation era. How high inflation averages over the next five years will be mostly determined by the rippling effects of huge monetary expansion. We will continue to watch the situation closely as Beijing attempts to implement policies which will try to maintain this stability.

Contributed By: DailyFx

Talking Points

* Japanese Yen: Advances Against Most Counterparts
* British Pound: BoE Holds Cautious Outlook For Economy
* Euro: ECB Says Bailout Funds Will Be Expanded If Needed
* U.S. Dollar: Extends Rally During Holiday Trade

Mixed comments by the Bank of England pushed the British Pound to a low of 1.5732 during the European trade as the central bank maintained a cautious outlook for the U.K. economy, and speculation for further easing may reemerge as policy makers stand ready to move monetary policy in either direction. BoE Governor Mervyn King said that the economic outlook remains clouded with “considerable uncertainty” while testifying in front of Parliament, and continued to see a risk for inflation as the central bank expects price growth to hold above the 2% target throughout the following year. Mr. King said that taking “strong actions” against inflation could bear down on the recovery given the ongoing weakness within the private sector, but went onto say that monetary policy will have to be normalized at some point as the economic recovery gradually gathers pace. Although, the central bank head stated that he expects the Chancellor of the Exchequer, George Osborne, to approve an expansion in quantitative easing if the central bank sees a need to loosen monetary policy further, and noted that it is imperative for the central bank to meet the 2% target for inflation as it carries out its dual mandate to ensure price stability while fostering full-employment.

During the testimony, MPC board member Andrew Sentance noted that there is a risk for price growth to exceed 4% in the near-term and argued that the board should start normalizing monetary policy sooner rather than later in order to stem the risks for inflation. At the same time, Adam Posen held a “pessimistic” outlook for future consumption as he expects the tightening in fiscal policy to bear down on the recovery, and continued to talk down the risks for inflation as he expects the ongoing slack within the real economy to weigh on price growth. As U.K. policy makers struggle to meet on common ground, there could be a growing split within the MPC as Mr. Sentance continues to push for a rate hike while Mr. Posen sees scope to expand QE further, and speculation surrounding the prospects for monetary policy is likely to play an increased role in driving price action for the British Pound as we head into 2011. As the GBP/USD continues to hold above the 32.8% Fibonacci retracement from the 2009 low to high around 1.5700, we may see the exchange rate consolidate going into December as it breaks out of the upward trend from May, but fears surrounding the European debt crisis could trigger another sharp decline in the pair as policy makers struggle to restore investor confidence.

The Euro held a narrow range during the overnight trade after bouncing back from a low of 1.3285, and the exchange rate is likely to remain relatively flat throughout the day as market liquidity thins during the holiday trade. Meanwhile, European Central Bank board member Axel Weber, who also heads the Bundesbank, said that the EUR 750B bailout fund “should be enough to assure the markets” while speaking in Paris, but went onto say that the scope “will have to be increased” if it fails to lift market sentiment. As the governments operating under the fixed-exchange rate system struggle to manage their public finances, fears surrounding the debt crisis is could intensify in the coming months as market participants speculate Portugal and Spain to seek aid, and the bearish momentum behind the euro could gather pace in December, which could lead the EUR/USD to retrace the advance from September.

The greenback rallied against all of its major counterparts on Thursday, with the USD/JPY rallying to a high of 83.69, but the dollar could face choppy price action going into the end of the week as U.S. traders go offline during the Thanksgiving holiday. As the economic docket remains bare for the remainder of the day, risk trends should dictate price action going into Friday, but the drop in market liquidity could produce difficult trading conditions as the majors hold a narrow range.

Contributed By: DailyFx

 Certain deflationists have recently gone on record saying that the increase in the Fed's balance sheet is meaningless with regard to creating inflation because our central bank can't print money, it can only create bank reserves. The problem with their view is that it both disregards the definition of money and ignores the process of creating bank reserves.

Money is commonly defined as "a medium that can be exchanged for goods and services and is used as a measure of their values on the market, including among its forms a commodity such as gold, an officially issued coin or note, or a deposit in a checking account or other readily liquefiable account." The Fed creates a "readily liquefiable account" when creating excess bank reserves, so it is also creating money. Since inflation is properly defined as an increase in the money supply, the Fed unquestionably creates both money and inflation when it creates reserves.

The deflationists' error is to suppose that because the amount of currency has not grown, the money supply hasn't grown. But the Fed never creates currency - all the printing is handled by Treasury; instead, it creates bank deposits which are held at the Fed. In ignoring this "base money," the deflationists make no distinction between having the Fed's balance sheet at $800 billion or $3 trillion. Doing so is a huge mistake for both making investment decisions and predicting asset price levels.

In short, for deflationists to be correct, they must contend that only money which is currently in circulation can be considered inflationary, i.e. lead to rising prices. Therefore, they must also believe that all increases in demand and time deposits should not be included in the money supply and should not be considered inflationary. This isn't just wrong, it's grossly wrong.

Not only do the Fed's monetary additions increase the money supply, but the effect can be vastly multiplied through the fractional reserve system.

Also, the process of creating bank reserves always first involves the purchase of an asset by the central bank. The Fed issues electronic credits to banks in exchange for bank assets, including Treasuries. Its purchases drive up the demand for those assets, bringing about rising prices. In fact, Bernanke has clearly stated that the purpose of his "quantitative easing" program is to raise the rate of inflation, which in his mind is too low.

What the Fed is accomplishing is a reduction in the purchasing power of the US dollar. It creates inflation by vastly increasing the money supply, and thus lowers the confidence of those holding the greenback. If international confidence in the dollar is shaken, most dollar-based asset prices will increase - with the exception of US debt.

Deflationists also ignore the rise in prices that is occurring because of the potential insolvency of the US government. It is not dissimilar to what happened to Enron shares. Once the accounting scandal broke, the purchasing power of Enron shares plummeted. It was not because of an increase in the number of shares outstanding, but because of an epiphany on the part of investors that the company was totally bankrupt. Logically, shares representing a stake in a doomed company lost all of their value. Likewise, aggregate prices will soar if global investors lose confidence in the dollar due to the realization that the US is incapable of servicing its debt.

Whatever the deflationists may claim about the money supply, the objective indicators are not looking good for Uncle Sam. The dollar's decline is abundantly evident when compared to gold, commodity prices, other currencies, real estate, and the list goes on. The national debt now stands at over $13.7 trillion, some 94% of GDP. Either due to an insolvent currency backed by a bankrupt nation or because of the Federal Reserve's endless money printing, I have no doubt that the deflationists have it completely wrong.

Contributed By: DailyFx

 Any risk rally on the back of the announcement of an Irish bailout has been totally negated and then some, with market fears of contagion and warnings from Moody’s that it may issue a multi-notch downgrade of Ireland proving too tough to ignore. Also seen weighing on sentiment have been escalating pressures on Irish PM Cowen as the government comes under intense pressure. These developments have infected the market’s sense of security and many now look to funding pressures in Portugal and the threat of additional tightening in China as an added source for worry.

ECB Liikanen has been on the wires into the European open stressing that the Euro will survive through the current crisis, while also reassuring market participants that it would be impossible for the Eurozone to breakup. Meanwhile the Yen has come under some pressure with the single currency selling off sharply across the board on rising geopolitical tensions as news gets out the North Korea has fired dozens of artillery at a South Korean island. Elsewhere, the New Zealand Dollar has been making up some lost ground on the crosses after getting hit hard on Monday following the S&P downgrade, with Moody’s coming out on Tuesday and offering a more stable outlook for the country and reaffirming its ratings.

Looking ahead, there is a batch of German data due at 7:00GMT, with some more German data in the form of PMIs at 8:30GMT. Eurozone PMIs are then released at 9:00GMT, with UK BBA loans for house purchases capping things off at 9:30GMT. US equity futures and commodity prices are well offered on the day thus far.

Contributed By: DailyFx

 

Near term in crude, 5 waves down are visible from the top which confirms that the larger trend has reversed. Crude reversed close to the former 4th wave extreme of 8300 therefore the next leg lower (either wave c or 3) is probably underway towards 71.50 (May low). Above 8332 would shift focus to resistance from Fibonacci at 8400 and 8500.

Contributed By: DailyFx

I wrote yesterday that “additional upside remains possible as the decline from the top is in 2 equal waves, which suggests that weakness is still corrective. As such, the NZDUSD could register one more high…however, given the bearish EURUSD, GBPUSD, and AUDUSD counts, it is wise to consider the bearish possibility shown above.” Look lower and move risk to 7840. The 60 day SMA at 7500 could serve as support but the next important level is 7400 (former support and resistance).