GLOBAL FX STRATEGY CURRENCY STRATEGISTS

Daily Foreign Exchange Update Camilla Sutton, CFA, CMT

(416) 866-5470
Sacha Tihanyi
(416) 862-3154
Camilla_Sutton@scotiacapital.com Sacha_Tihanyi@scotiacapital.com
Monday, August 9, 2010

US YIELDS SUPRESSED AHEAD OF TUESDAY’S FOMC

FED EXPECTATIONS INCREASINGLY MUTED
• Friday’s nonfarm raises policy uncertainty ahead of FOMC.
• USD net speculative short position surges to 8-month high.
• German exports recover towards pre-crisis levels, while EUR holds awaiting the Fed.
• Hurdles this week: Fed, BoJ, BoE’s inflation report and July’s round of Chinese data.

FX Market Update - European equities are making strong gains today, generally up
well over 1%, though this is not providing enough of a positive sentiment boost to
push North American equity futures as deep into the black. The residual impact of last
Friday’s weak employment data is still making its presence felt and weighing on US
equity sentiment. The USD had been broadly weaker heading into North American
trading, but EURUSD has pushed to a new intraday low to help give the greenback a
bit of a bid. Still, there lacks a tone of strength behind the USD today as most majors
are only marginally off against the currency. GBP and AUD have managed to hold mar-
ginal gains, while only the NZD is lagging. S.T.

All Eyes On The FOMC- Though the market will get US July inflation data on Friday,
the main focus of the week for the FX market will certainly be tomorrow’s FOMC rate
decision. In light of continuingly uninspiring economic data, punctuated by Friday’s SPECULATIVE EUR POSITIONING IS MORE BALANCED
weaker than expected employment result, the uncertainty and even the stakes of the
FOMC meeting seem to have risen. The question however remains how much is the
Fed concerned over the weakening economic data? Certainly the market’s response to
new economic information has been one of disappointment, relative to how the re-
bound got underway. That disappointment has reverberated all the way down to the
view on the interest rate outlook as the yield on the US 2-year Treasury plunged
to a new record low following Friday’s employment data, pushing the trade
weighted USD to a new 3.5 month low. Has the Fed been surprised however?
Based on the latest FOMC minutes we know that the central tendency of FOMC expec-
tations for 2010 growth (3.0% - 3.5% ) is in line with the consensus of 55 contributors
polled by Bloomberg (at 3.1%) as is the unemployment outlook. At a 9.5% unemploy-
ment rate, there is not a large divergence between FOMC projections and reality, and
Fed Chief Bernanke’s rhetoric has told us not to expect jobs growth to be high enough
to substantially bring down the unemployment rate quickly. The same pattern holds for
core PCE inflation, at 1.1%, as it currently lies above the Fed’s central tendency projec-
tion of 0.8% to 1%, currently suggesting no surprise relative to the Fed’s 2010 out-
look. • So is the Fed going to be incented to do something tomorrow, and if so, what
is the USD impact? The most popular bit of speculation in the market is that the FOMC
will announce that the funds from bonds maturing in their QE portfolio will be rein- GERMAN EXPORT & IMPORT VOLUMES IMPROVE
vested in order to prevent its balance sheet from shrinking and keep policy stimulus
well maintained. It seems to be a no-win situation for the USD. Should the Fed ease
policy, that will likely send US short term yields lower. Should it remain on hold for,
then the market is likely to punish the greenback for a central bank that is seemingly
indifferent to a wobbling US growth profile. Ultimately, what this means is that the
USD has ground to give yet on this most recent weakening move. S.T.

Americas
USDCAD (1.0290) • CAD is trading in a fairly tight range heading into the North
American day, down 0.2% against the USD. USDCAD broke downtrend resistance at
1.0245 on Friday, as CAD was hit by the double whammy of weaker than expected
data in both Canada and the US. However, resistance at USDCAD’s 100-day mov-
ing average (at 1.0311 today) held and now constitutes the key upside re-
sistance level. While the US economic data will be much more relevant for USDCAD
this week, we do receive housing starts and house price index data on Tuesday, ahead
of Wednesday’s merchandise trade data. We look for USDCAD’s trading range to hold
between 1.0230 and 1.0352 today. S.T.
GLOBAL FX STRATEGY Monday, August 09, 2010

Europe GBPUSD (1.5960) • GBP has had a quiet Asian

EURUSD (1.3260) • EUR has lost 0.2% since Friday’s close, having had a narrow range in the Asian and Euro- and European session, and is entering the
pean sessions. On Friday, EUR rallied to a high of 1.3334 on the back of the disappointing US North American session having gained 0.2%
employment report. With the focus firmly on the outlook for US monetary policy there is fur- against the USD. There were no data released
ther room for USD weakness (the next important level is 1.3510, which would mark the re- in the UK today as the focus is the release
tracement of 50% of the November 2009 to June 2010 collapse). Europe, itself, lacks the fundamen- of Wednesday’s BoE Quarterly Inflation
tals to push EUR sustainably above 1.35. A strengthening EUR will soon shift the market's focus back to the Report. With inflation still elevated (above the
increased economic struggles that will face the Eurozone with a strengthening EUR and the longer-term sol- 3% upper band on both core and headline),
vency of some of the weaker EU members. Accordingly, we would expect a test up to 1.35 before EUR re- and not showing signs of dropping back into
traces some of its recent gains. • This week’s speculative IMM/CFTC data reported that the net short the targeted range, the BoE is increasingly
EUR position shrank again and now stands at just -$1.2bn. The change came from both a reduction in finding themselves in a difficult position. The
gross shorts and an addition to gross longs - see middle chart on page 1. The EUR position is now far more potential of having to raise interest rates while
balanced, which implies that for EUR to rally above 1.35 it will need a significant fundamental catalyst and growth is still subdued, will be not be a me-
will not be driven simply by short covering.• Today, Germany released strong exports and imports dium term positive for the currency. Last
data, with its trade balance widening to €14.1bn. In euros, German exports volumes continue to re- week, the 50-day moving average
cover towards pre-crisis levels, while imports have exceeded these in both euros and volumes - see bottom crossed above the 100-day (1.5137 and
chart on page 1. • Near term resistance lies at Friday’s high of 1.3334, while support lies at the 9-day moving 1.5069), which is a bullish development.
average of 1.3161. C.S. For now 1.60 has held well as resistance, a
break and close above this level would open
up a test to historical congestion at 1.6230/40;
Key Pricing & Levels however the failure to break above 1.60 in the
30 Day 1 Day 1 Week 100 Day 200 Day Pivot 1st Pivot 1st near-term would put downward pressure on
Spot the currency. C.S.
Hist Vol Change Change MA MA Support Resistance
USDCAD 10.9 1.0294 0.0020 0.0058 1.0311 1.0398 1.0192 1.0352
EURUSD 11.1 1.3256 -0.0024 0.0087 1.2822 1.3538 1.3165 1.3341 Asia / Oceania
GBPUSD 10.5 1.5968 0.0026 0.0075 1.5069 1.5529 1.5872 1.6031 USDJPY (85.60) • USDJPY is essentially flat to
USDCHF 12.0 1.0394 0.0006 0.0008 1.0894 1.0654 1.0315 1.0491
Friday’s close, but off of Friday’s new 8-month
USDJPY 9.4 85.60 0.09 -0.93 90.72 90.42 85.02 86.19
low of 85.02. Tomorrow, the BoJ will an-
AUDUSD 13.6 0.9188 0.0006 0.0054 0.8860 0.8962 0.9142 0.9228
nounce its decision on monetary policy.
With the drop in the US-JN interest rate spread
USDMXN 10.1 12.67 - 0.02 0.08 12.62 12.75 12.55 12.77
having pressured USDJPY lower, there is most
DXY (USD index) 7.8 80.48 0.07 - 0.47 83.69 80.80 80.06 80.92
likely increasing government pressure for the
CRB Commodity 274.71 -2.96 0.36 265.30 270.37 N/A N/A
BoJ to act to deter yen strength. Accordingly,
Gold 1,206.90 1.50 23.45 1,189.08 1,154.31 1,195.90 1,214.50
tomorrow’s decision is an important hurdle for
WT Crude (Nymex) 81.58 0.88 0.26 78.28 77.91 80.19 82.82
markets this week. However, considering
Nat Gas (Nymex) 4.48 0.01 -0.21 4.38 4.73 4.39 4.60
EURJPY has not mirrored the drop in
BoC Noon Rate 1.0273 CAD (close from Bloomberg not BoC): 1.0274
USDJPY and the well documented diffi-
Pricing Source: Bloomberg 8/9/2010 culties associated with intervention we
think we are not yet at a level where the
Today's Releases & Speakers Period Cons Last Significance government (though the BoJ) will physi-
10:00 AM MX Consumer Prices (MoM) JUL 0.2% 0.0% High cally step into markets. C.S.
10:00 AM MX Trade Balance JUN F - - -340.5M Medium
7:01 PM UK BRC July Retail Sales Monitor Medium USDCNY (6.7674) • USDCNY dropped to a
7:01 PM UK RICS House Price Balance JUL 5.0% 9.0% Medium new low of 6.7641 in the Asian session,
7:50 PM JN Housing Loans YoY 2Q -- 1.0% Medium bringing the total drop to 1% since early June,
9:30 PM AU NAB Business Confidence JUL -- 4 Medium when additional yuan flexibility was an-
NA CH Trade Balance (USD) JUL $19.60B $20.02B High nounced. • Diversification of reserves contin-
NA CH Exports YoY% JUL 35.0% 43.9% High ues to be an overarching theme in the yuan,
NA CH Imports YoY% JUL 30.0% 34.1% High with some focus on further buying of short-
NA JN BOJ Target Rate 0.1% 0.1% High term Japanese debt by China revealed in the
2:00 AM GE CPI - EU Harmonised (MoM) JUL F 0.3% 0.3% High latest MoF stats. • This week we will get a
fresh round of Chinese economic data (July
2:45 AM FR Industrial Production (YoY) JUN 7.3% 8.2% Medium
stats), which will be important for commodity
4:30 AM UK Total Trade Balance (GBP/Mln) JUN -£3650 -£3817 Medium
prices and currencies. C.S.
4:30 AM UK DCLG UK House Prices (YoY) JUN 9.8% 11.0% Low
5:15 AM EC ECB Announces Allotment in 7-Day and 1-month Refinancing Tender Medium
Commodities
Oil ($81.58) • Oil is trading within Friday’s
Suggested Reading range and holding up well considering the
German Export Surge Points to Rebound, Daniel Schafer, FT (August 9, 2010) disappointing US employment data. The cur-
Quarterbacks Get Out ‘Hail Mary’ Economy Passes, Jon Hilsenrath, WSJ (August 9, 2010) rent rolling 30-day correlation between CAD
Future Generations Will Curse Us for Cutting in a Slump, R. Skidelsky & M. Kennedy, FT (August 9, 2010) and oil is strong at 0.85. C.S.
Some Firms Struggle to Fill Jobs Despite High Unemployment, Mark Whitehouse, WSJ (August 9. 2010)

2
GLOBAL FX STRATEGY Monday, August 09, 2010

Our July Monthly FX Strategy Call is now available, please dial in at your convenience.

Dial: 416-695-5800
Passcode: 77386016#

This month's 20-minute call is hosted by Sacha Tihanyi and discusses:

1) Economic and FX forecast update - less tightening for the Fed and BoC
2) USD decline - factors driving the downturn

The presentation can be found at:

http://www.scotiafx.com/conference/index.htm

Conference call commands

Press 1 – Skip backward 5 seconds
Press 3 – Skip forward 5
Press 4 – Skip backward 5 minutes
Press 6 – Skip forward 5 minutes
Press 5 – Pause the playback

If you have any questions, please contact:

Camilla Sutton at (416)866-5470, camilla_sutton@scotiacapital.com or
Sacha Tihanyi at (416)862-3154, sacha_tihanyi@scotiacapital.com

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