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Discussion in 'Money & Finance' started by John From Moneycorp, Jan 9, 2010.

  1. John From Moneycorp

    John From Moneycorp Foreign Exchange Expert

    Quiet and illiquid markets dampen activity and exaggerate exchange rate movements. Third quarter economic performance disappoints.

    Sterling gave back most of the previous week's gains during the Christmas week, falling from $1.8250 to $1.80. It fell sharply last week as the Aussie strengthened from $1.8050 to $1.77. On Wednesday and over the weekend it made back some of that loss to open in London at $1.79 this morning.

    As anticipated, two shortened weeks and two major holidays made for an inactive and illiquid foreign exchange market. Market-makers, investors and traders did only what was absolutely necessary. Corporates and other market-users got involved only when they had to. Any sizeable orders that did go through had a disproportionately great impact, causing exchange rates occasionally to jump or slump for no visible reason. Last Tuesday the Australian and NZ dollars surprised most investors with sharp jumps against everything. The following day the pound surprised them just as much with its own upward spike. No explanation was to be found for the moves, other than to associate them with higher prices for the commodities they produce.

    There was less than the usual reaction to economic data. A disappointing revision to figures for the third quarter of '09, confirming that Britain's economy had shrunk for an 18th month, prompted some selling of the pound. However, the damage was nowhere near as great as it might have been if the announcement had come two weeks earlier or later. Nor did the minutes of the Bank of England's Monetary Policy Committee have much impact. Their content was exactly as investors had been expecting. It was much the same with Nationwide's report of a further rise for house prices in December; vaguely helpful but nothing to get excited about on new year's eve.

    There were no Australian economic statistics to worry or to elate investors, even had they been in a mood to become emotional about currencies. New motor vehicle sales improved by +5.5% in November and were up by a useful +15.8% on the year, reflecting perhaps a quicker return to normality for the recession-dodging Australian economy. There must have been some cash buyers around because private sector lending expanded only by a modest +0.1% on the month. Early this morning there was a negative note with a contraction in manufacturing activity for the first time in five months. The news did the Aussie no harm, at least against the pound.

    The new year will undoubtedly bring new tests for sterling. Dangling over it are still the budget deficit, the risk of a downgrade in Britain's credit rating and of course the general election. Investors seem happy at the moment to give sterling the benefit of the doubt, in anticipation of a change of government and a change of fiscal policy. Nevertheless, the doubt is still there. The preferred risk management strategy therefore remains unchanged for the time being. Buyers of the Australian dollar should stick to a hedged position, locking into a rate for half the money they will need.

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