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Wednesday, January 30, 2008

FX Locked in Range, Awaits FOMC

The greenback was mixed on Tuesday, higher against the yen while drifting lower against the euro and sterling. Supporting the dollar earlier in the session was stronger than expected durable goods orders. Nevertheless, traders remain cautious ahead of tomorrow’s FOMC monetary policy announcement at 2:15 PM. Fed funds futures are currently discounting 76% likelihood for a 50-basis point rate cut tomorrow to 3.0%.

The US economic data revealed sharply stronger than forecast durable goods orders for December to 5.2%, outpacing calls for an increase to 1.5% and reversing the previous month’s 0.1% decline. The core durable goods orders jumped by 2.6%, and the excluding defense reading also improved by 2.9%. Consumer confidence was slightly better than expected in January at 87.9, but down from a month earlier at 88.6. The expectations component plunged to 69.6, versus a revised 75.8 from December.

In addition to the Fed’s monetary policy announcement tomorrow, markets will continue to focus on the US economy – with the releases of the January ADP employment payrolls, largely viewed as a proxy for the key non-farm payrolls, the advanced reading of Q4 GDP and the Q4 PCE. The January ADP payrolls are expected to edge up to 45.0k, down from 40k from December. US economic growth in the fourth quarter is expected to decline sharply – down from a robust 4.9% reading in Q3 to an anemic 1.2% in the preliminary Q4 report.

With the markets largely discounting a 50-basis point rate cut tomorrow, anything less will clearly disappoint. It will also be interesting to see the accompanying FOMC statement to gauge the scope of the Fed’s easing stance. Nonetheless, we anticipate the dollar’s downside to be limited given market expectations for the aggressive cut, as well as sentiment that the ECB, BoE and BoJ will also follow suit in reducing interest rates.

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