Expert Analysis of Today's Market

• The dollar rebounded from an all-time low versus other key currencies on Wednesday after the Federal Reserve yesterday cut the federal funds rate 50 basis points to 4.75% and the discount rate 50 basis points to 5.25%. Sterling fell against all 16 most-actively traded currencies after minutes of the Bank of England’s last meeting showed BOE policy makers unanimously held interest rates at 5.75% and suggested inflation risks have “probably receded.” The yen fell on a renewed risk appetite.


• The EUR/USD continued rising to an all-time high after the Fed yesterday lowered interest rates more than forecast. A test of 1.40 is expected. If this resistance is broken, the pair will move to 1.42. There is support at 1.38.

Financial and Economic News and Comments

US & Canada

• US consumer price index (CPI) declined a more-than-expected 0.1% m/m in August and rose 2.0% y/y. Energy prices declined 3.2% m/m in August. Excluding food and energy, the core CPI rose 0.2% m/m in August, as expected. The core CPI rose 2.1% y/y. Inflation is still relatively high, around the Fed’s comfort zone’s upper 2% level; however, it is decelerating as indicated by the chart below. However, yesterday’s Fed rate cut is likely to increase the risk of accelerating inflation, unless the US economy slows dramatically.

• US housing starts declined a more-than-expected 2.6% in August to a seasonally adjusted 1.331 million annual rate, after falling 6.9% in July to 1.367 million. Housing starts fell 19.1% y/y. August’s decline was due to single-family homes, which fell 7.1% m/m, while multi-family starts increased 12.8% m/m in August. New building permits declined 5.9% m/m in August to 1.307 million units at an annual rate, slower than the consensus expected 1.350 million. Permits fell 24.5% y/y. Housing starts are the lowest since 1995. Housing inventory is still large and a recovery in home building is still not in sight.

Europe

• In a reversal of its previous policy, the Bank of England abandoned its opposition to emergency 3-month money auctions and loosened lending standards, a week after Governor Mervyn King said such steps would encourage “risky behavior.” The BOE said the penalty rate will be 6.75% and the central bank will accept “mortgage collateral” at the auction of £10 billion ($20 billion) in loans next week. This measure is being taken to “alleviate the strains in longer-maturity money markets,” the BOE said.

Asia-Pacific

• The Bank of Japan, as widely expected, left interest rates unchanged at 0.5% in its policy board meeting ended Wednesday. The decision was by an 8-1 vote, with Atsushi Mizuno the sole advocate for a rate increase for a third consecutive meeting. BOJ Governor Toshihiko Fukui told a press conference that Japan’s low interest rates were responsible for creating an environment for yen carry trades. Fukui said the yen carry trades show how resources can be misallocated.

FX Strategy Update