Business-Insider

The Japanese Yen continued to rally higher against its higher yielding counterparts, as continued tumbles in the Dow Jones Industrial Average led to pronounced carry trade liquidation. The US dollar also had a strong day of gains, matching its largest intraday advance in six months. A flight to safety across the board led to continued volatility across all asset classes, with especially pronounced moves in interest rate and stock markets.

Euro traders saw the single currency lose another 140 points against the Japanese Yen, leaving the EURJPY at its worst peak-to-trough drawdown since March. The high-yielding British Pound was likewise among the worst performers as it shed an incredible 250 points to ¥240.56. Finally, US dollar traders saw the greenback remain relatively stable against its Japanese counterpart, adding a minimal 6 points to ¥118.77 through time of writing.

A positive surprise in US Gross Domestic Product data lent the dollar support through early morning trade, with continued flight to safety leaving the greenback higher on the New York afternoon. The US economy grew at a faster pace than expected through the second quarter of the year, registering a 3.4 percent annualized expansion versus 3.2 percent expected. The attached Price Index was slightly subdued, however, adding weight to the argument that inflationary pressures are receding in the world's largest economy.

The result shows that the economy posted a strong recovery from the first quarter's dismal 0.6 percent annualized rate, with a sizeable improvement in the Trade balance and Government Consumption spurring a jump in GDP. Yet not everything is rosy on the release; Personal Consumption fell to a 2.7 percent annualized pace, worse than the 3.4 percent expected and considerably below the 4.2 percent clip seen in the first quarter. The net implications of the report are arguably mixed, but such a strong rebound in headline GDP rates nonetheless quelled fears of a continued US economic slowdown.

Strong GDP rates were unable to hold back equity market tumbles. Continued risk aversion led the Dow Jones Industrial Average another 94 points off to 13,379 by 17:34 GMT. Losses were actually worse earlier in the day, but bears were unable to drive the closely-followed index beyond yesterday?s panic-lows. The S&P 500 posted a similar 0.71 percent decline to 1,472, while the tech-heavy NASDAQ Composite had the largest percentage drop at 0.86 to 2,577. Continued gains in corporate bond yields and overall credit concerns brought financial shares lower, while speculators cut back expectations of mergers and acquisitions for the same reasons.

Fixed income markets showed small gains on the session, sending yields further from their recent highs. The benchmark 10-year note inched up 3/32 points to 97 and 7/8, with the yield losing a single basis point 4.77 percent. Treasuries had moved considerably higher in early trade, but a subsequent stabilization may signal a pending turnaround in markets. A bounce in yields would certainly boost the dollar, offering better rates of return to the yield-hungry international investor.
__________________

The sharp fall in oil prices on Tuesday (Brent crude fell $3 per barrel to around $76) shows the lack of support at these high levels. the wobble in prices illustrates the vulnerability of prices when speculative long positions are close to record highs. Analysts continue to expect Brent crude to fall to around $65pb by year-end.

The Bank of Japan is expected to raise interest rates at only a glacial pace this year, posing little threat to the carry trade. But worries that weakness in the US sub-prime mortgage market is spreading to the wider economy could cause a flight from risky assets -- leading to a rush to buy back yen.

The Yen already surged across the board on Tuesday as growing turmoil in U.S. credit markets led investors to bail out of stocks and risky trades financed by borrowing in the Japanese currency.

News and Events:
The sharp fall in oil prices on Tuesday (Brent crude fell $3 per barrel to around $76) shows the lack of support at these high levels. The immediate triggers appear to be linked to two developments involving Iran: signs of progress in talks between Iran and the UN nuclear watchdog agency IAEA, and comments from an Iranian official that OPEC would increase production if required to cap prices.

But whatever the precise reasons, the wobble in prices illustrates the vulnerability of prices when speculative long positions are close to record highs. Analysts continue to expect Brent crude to fall to around $65pb by year-end.

The yen surged across the board on Tuesday as growing turmoil in U.S. credit markets led investors to bail out of stocks and risky trades financed by borrowing in the Japanese currency. The yen rallied sharply as mounting worries about the housing market drove some major U.S. stock indexes down nearly 2 percent by the close. The Dollar also sank to a record low against the Euro. Some analysts said "We're teetering very close to the edge of a carry trade unwind, actual view is that there are reasons to bail out right now".

The yen, the lowest-yielding currency in the industrialized world, has been a popular financing vehicle for speculators investing in higher-yielding assets of countries such as Australia and New Zealand through so-called carry trades. As investors unwound some of those bets, the yen fell about 0.7% against the currencies of both countries on Tuesday.

UsdJpy sank 0.57% to 120.27 yen after touching a two-month low of 120.00. Meanwhile, the EurJpy dropped 0.44% to 166.20. EurUsd jumped to a record high of 1.3852 before settling back at 1.3820 up 0.14% on the day. GbpUsd climbed to a 26-year high 2.0654 before settling back at 2.0610 up 0.09%.

The Bank of Japan is expected to raise interest rates at only a glacial pace this year, posing little threat to the carry trade. But worries that weakness in the US sub-prime mortgage market is spreading to the wider economy could cause a flight from risky assets -- leading to a rush to buy back yen. If problems stemming from the sub-prime market spread to other sectors, foreign demand for U.S. corporate debt -- a major source of financing for the trade deficit -- could waver and further hurt the dollar, some analysts say.

Given the market's sensitivity about the health of the housing market, US existing home sales data due on Wednesday and new homes sales due on Thursday are likely to be major centers of attention this week.

Both precede the first reading of second-quarter US Gross Domestic Product, due on Friday, which will indicate to what extent the economy bounced back from the January-March period, it most sluggish quarter of economic growth in more than four years. The latest plunge lower in the dollar coincided with a report showing Canadian Retail Sales in May had the biggest increase in nearly a decade, pushing the Dollar to a 30-year low against the Canadian dollar of 1.0340.

Import Price Index (JUN) (12:30 GMT; 08:30 EST) Advance Retail Sales (JUN) (12:30 GMT; 08:30 EST)
Expected: 0.7% Expected: -0.1%
Previous: 0.9% Previous: 1.4%

How Will The Markets React?
On Friday morning, the release of the US import price index and advance retail sales hold major market-moving potential, as the news will reflect two of the most important topics relating US asset trading: inflation and consumption. First, while import price growth is anticipated to slow in June to 0.7 percent, the figure is still relatively buoyant and will likely be supported by high petroleum product prices. Nevertheless, core inflation (CPI excluding food and energy) remains the Federal Reserve's predominant concern, so an oil-price led increase in import costs may not lead to extremely hawkish Fed expectations.

Meanwhile, advance retail sales are estimated to fall 0.1 percent in June after surging 1.4 percent in May. With average gasoline prices over $3/gallon during that period, the decline is likely to be led by a slump in automobile purchases, as cars and light trucks sold at a 15.6 million annual rate in June - the slowest since October 2005. Excluding automobiles, retail sales are still anticipated to slow substantially to a rate of 0.2 percent from 1.3 percent the month prior. However, there are risks to both the upside and the downside. Good news first: stores like Wal-Mart and Costco have reported better-than-estimated sales results in June.

Now the negative: Wal-mart has said that the jump in sales was generally due to price discounts, while Home Depot Inc. and Sears Holdings Corp. warned sales and profits will be weaker than expected, partly blaming the woes in the housing sector. Meanwhile, Macy's, JC Penney, and Kohl's all reported disappointing results on soft apparel sales. US markets are likely to respond in similar manners to Friday?s data. If the import price report is softer than estimates, bonds and equities are likely to rally while the US dollar will continue to take on additional losses. However, the combination of upside surprises in both the inflation report and retail sales figure will lead the markets to consider the possibilities of policy tightening by the Federal Reserve later this year.

FX - EUR/USD
As traders desperately search for a top in EUR/USD, the release of US economic data regarding both inflation and consumption will draw a significant amount of attention. However, the estimates for Friday?s import price index and retail sales figure may only push the pair up to 1.3800, as price growth is expected to ease while consumption is predicted to take a hit.

These factors would be highly bearish for the US dollar, as the markets will see such data as a signal that the Fed will remain on hold throughout the rest of the year, despite their persistently hawkish stance. Nevertheless, 1.3800 represents a psychologically important level for EUR/USD, so a sell-off of the US dollar to that figure may be capped. Furthermore, the move could result in a sharp turnaround, especially if the data is mixed, as dollar bulls waiting in the wings will be looking for any reason to fade the overextended pair.
__________________
Analysis by DailyFX

Today was like the St Valentine’s Day Massacre for the US$ after what seemed a benign Asian trading session.

NEW YORK (AP) - The euro shot to an all-time high against the U.S. dollar Tuesday on concerns about the American economy that were fueled by discouraging growth forecasts from key U.S. retailers and homebuilders.

The British pound, which has been trading around 26-year highs against the dollar, briefly touched $2.0273 after reports showed British consumer prices were rising at a faster pace than the target set by the Bank of England.

The euro hit a new record of $1.3738 Tuesday, its highest level against the dollar since the 13-nation currency started trading in 1999, before retreating to $1.3729. That was still above the euro's previous high of $1.3682 reached on April 27 and the $1.3623 it bought late Monday in New York.

A higher euro makes goods from the 13-nation currency zone more expensive for customers abroad.

Along with the rise in the pound, the stronger euro also makes visits to much of Europe more expensive for travelers from elsewhere and makes shopping trips to the U.S. more appealing to Europeans.

'The dollar is a basket case,' said Peter Schiff, president of Euro Pacific Capital Inc. 'We are going to pay the piper for years of having the underlying fundamentals of our economy disintegrate beneath our feet.'

Given the state of the U.S. economy, he said, the dollar could continue to fall in the coming years against the euro, to $2.50 or even $3.

In late New York trading, the pound was changing hands at $2.0267, up from $2.0151 late Monday in New York. The dollar also fell against the Japanese currency, drifting to 122.03 yen from 123.33 yen.

The dollar bought 1.0512 Canadian dollars, up from 1.0484 late Monday, after the Bank of Canada raised its key rate by a quarter of a percentage point to 4.5 percent on Tuesday.

In other trading, the dollar bought 1.2053 Swiss francs, down from 1.2161.

The dollar's plunge against the euro and pound came as U.S. stocks fell, reacting to forecasts from retailers including Home Depot Inc., Sears Holding Corp. and homebuilder DR Horton Inc. that raised concerns about whether corporate America's growth will give stocks the boost investors have been hoping for.

Adding to the dour news on Wall Street was a move by Standard & Poor's Ratings Service to place credit ratings on 612 classes of residential mortgage-backed securities backed by U.S. subprime collateral under review for a possible downgrade. Subprime mortgage loans are those made to people with questionable debt repayment records.

Also Tuesday, a speech by U.S. Federal Reserve Chairman Ben Bernanke in Cambridge, Mass., offered little insight into the central bank's next move, and instead focused on how the Fed makes its inflation-fighting decisions.

The Fed has left the benchmark rate unchanged at 5.25 percent for a year now, after two years of steady increases.

That contrasts with the European Central Bank, which regularly raised rates and is expected to do so again to 4.25 percent in September; and the Bank of England, which last week increased its benchmark rate to 5.75 percent, a six-year high.

Higher interest rates, a weapon against inflation, can bolster a currency by giving better returns on fixed-income investments.

The euro began its most recent run against the dollar in June after the European Central Bank lifted its benchmark rate to 4 percent. Further increases would be aimed at countering threats of inflation in the euro zone, a bloc of 318 million people that accounts for more than 15 percent of the world economy.

On Tuesday the European Union gave Cyprus and Malta final approval to start using the euro, raising to 15 the number of nations that will be using the currency when the two Mediterranean nations join the euro zone on Jan. 1.

Michael Schubert, a currency analyst for Commerzbank, said it was fair to expect the euro 'to trade around $1.35 to $1.37 for the short and middle term.'

AP Business Writer Matt Moore in Frankfurt, Germany, contributed to this report.

Copyright 2007 Associated Press. All rights reserved.

Daily Support and Resistant...

**EUR/USD
R 1.3680 1.3750 1.3800 1.3850
S 1.3580 1.3530 1.3480 1.3410

**USD/JPY
R 123.80 124.30 125.00 125.50
S 122.80 122.30 121.50 120.80

**GBP/USD
R 2.0230 2.0280 2.0350 2.0400
S 2.0130 2.0060 2.000 1.9925

**USD/CHF
R 1.2230 1.2280 1.2330 1.2380
S 1.2130 1.2080 1.2030 1.1975

**AUD/USD
R 0.8630 0.8680 0.8750 0.8800
S 0.8580 0.8530 0.8480 0.8430

From Mr. Juvent....
Happy profit......

The Bank of England Monetary Policy Committee (MPC) faces a very important interest rate decision this Thursday as policy mistakes now could prove costly.

After a surge in headline consumer inflation at the beginning of 2007, the rate has started to moderate as big price increases last year are coming out of the calculation.

There are still concerns that underlying inflation is edging higher and the bank will need to keep inflation expectations under control. The headline rate is also still significantly above the 2.0% target at 2.5%

The economy is still growing steadily and house prices have remained strong even though there is evidence of an underlying deterioration in conditions. Consumer spending levels appear to have weakened slightly.

Failure to increase interest rates this month would risk damaging credibility, but a decision to increase rates when the economy is already slowing would risk a very sharp economic downturn later in 2007.

The recent comments from Bank of England officials suggest that a unanimous vote is unlikely this week. Indeed, it is certainly possible that the decision will be very close and a rate increase is by no means certain as there will be some votes for unchanged rates.

The evidence suggests that Bank Governor King will again vote for an increase and will exert pressure for dissenters to back his judgement this time around.

If interest rates are increased, the statement accompanying the decision will need to be watched closely to assess future policy decisions. If rates are held unchanged, there will not be a statement.

Overall, there is around a 70% chance that rates will be increased with the MPC deciding that an increase can be reversed quickly if necessary. There has been some speculation over a 0.5% increase, but this option should be rejected.

Sterling has effectively fully priced in a rate increase this month and the UK currency will weaken sharply if rates are not increased.

The UK currency should strengthen initially if rates are increased, but gains will probably not be sustained and Sterling could well end up with net losses, especially if the statement expresses doubts over a further increase.

__________________
Tim Clayton
Investica Ltd Head of Research
Forex Factory Analyst