Today is an important day for equity, currency and commodity markets since the Fed will announce their rate decision at 16.30 GMT. Even though the rate will definitely not be changed today the markets will be closely watching whether Fed has anything else in mind to prop up the economy. Talk of another possible round of quantitative easing has caused a great deal of celebration on the equity markets and a huge sell-off in dollar futures. When equity markets have also been supported by good earnings the sell-off in dollar looks to be related to expectations. Just take a look at the following chart displaying the movement of dollar futures.
Now I'm not saying that the US and their loose monetary policy should reward a strong dollar, I'm saying that compared to the euro for example US data has not been bad. Just take a look at EUR vs USD on the following chart.
And this all on the background of Eurozone's worsening debt crisis. Europe is probably already in a recession, UK's numbers this morning confirmed that. German manufacturing and services data are implying that. The yields on Spanish and Italian bonds are rising once more, now France and other core countries might follow. Most of the LTRO money (in Southern Europe all of it) supplied by the ECB has already been spent on those bonds. Europe has to cut interest rates or possibly come up with another growth promoting measure, loose monetary policy will help here. So the question would be - why the strength in euro vs dollar?
Here is my interpretation of the situation:
- Expectations for another round of QE by Fed causing speculation of a weaker dollar
- Reduction of US nominated assets by European banks hence the demand for euro
- And that's about it
I wouldn't bet on Fed doing another round of QE in an election year before things would look really bad. And by bad I mean the S&P500 at 1200 (currently trading near 1375), consumer confidence dropping fast, low inflation and possible recession looming. The Fed already commented in the beginning of year that they expect job market to weaken due to cyclical trends. Also, stronger dollar would ease gas prices and food prices which would help Obama in his campaign.
All in all I expect that euro will enter a bear trend after the Fed's announcement today and trade down to about 1.26 in coming months. I'm short euro.