Heightened risk aversion was the key driver of foreign exchange moves in the Wednesday session. US equity bourses sold off heavily, while the dollar and yen benefited from safe haven flows. The greenback recovered against the euro toward the 1.4560-region while edging up to 1.95 versus the sterling. Meanwhile, the yen rallied to its highest level in 2 ?-years against the dollar to 104.98 and moved sharply versus the sterling and euro.
Trichet Maintains Hawkish Bias ECB President Trichet dispelled rumors that it would follow in the footsteps of the FOMC by cutting interest rates to stimulate growth. Trichet told the European Parliament that in times of significant market volatility, it is imperative for the central bank to “solidly anchor inflation expectations to avoid additional volatility”. Trichet has remained consistent with the Bank's hawkish bias despite growing evidence of slowing growth in the Eurozone.
Economic data released overnight was mixed, with the January services flash PMI disappointing estimates to 52.0, versus 53.1 from December. However, industrial orders defied expectations for a decline to 1.4% m/m, instead rising to 2.7% in November up from 2.5% in the previous month. On an annualized basis, industrial orders jumped to 11.9% versus 10.9% a month earlier.
The euro was unable to sustain yesterday's gains versus the greenback amid growing skepticism about Trichet's hawkish tone and market sentiment that the next move by the ECB will instead be a rate reduction. EURUSD retreated from just beneath the 1.47-level and hovers near the 1.4580-region. We look for the euro to underperform with an immediate target of 1.44, and further out a possible test of the 1.40-region.
Sterling Drifts The sterling pulled off against the dollar to trade near 1.9520. The UK economy slowed in Q4, reinforcing expectations for additional rate cuts from the Bank of England. Data revealed the economy expanded by 0.6% in the fourth quarter, down from 0.7% in Q3 and slowing to 2.9% versus 3.3% in the previous year.
The minutes of the Bank of England's most recent policy setting meeting revealed an 8-1 vote to leave rates unchanged. Dissenting was board member Branchflower, who voted in favor of a rate cut given deterioration in the outlook for global demand of British exports. The minutes also paved the way for additional rate cuts to come, acknowledging “significant downside risk to UK activity from deteriorating credit conditions domestically and abroad”. BoE Governor King highlighted the current dilemma facing the central bank, saying he expects inflation to remain above target for some time in conjuction with marked slowing in growth.
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