All of this turmoil has caused the euro to drop about 2 cents so far this morning and is now just trying to hold onto the 1.36 handle. The markets have been so very fickle over the past couple of months that things could easily turn on a dime in US trading if there are any positive comments or developments that come out of Europe as the day progresses. We saw this happen yesterday as the markets were pleased with the decision from the Italian Prime Minister, Silvio Berlusconi, to step down.

His decision wasn’t necessarily of his own will, but instead, it seems that pressure from the markets had backed him into a corner and forced his hand. He was also on the receiving end of a strong round of criticism, both internally and externally, so the calls for his resignation have grown louder and louder. Italian borrowing costs have risen sharply over the past several days as the interest rates on bonds have risen to the highest level since joining the euro (EUR).

The currency market has, in turn, marked the euro down quite a bit this morning since the Italian economy can be thrown in the too big to bail out category as they don’t see a clear plan for appropriate austerity measures. The rising yields have cast fears with investors that Italy won’t have the ability to meet the interest obligations, and therefore, need some type of bailout or a default would result. Austerity measures are currently the topic of discussion for Italian politics, so I’m sure there won’t be a shortage of things to talk about.

Moving over to the United States, it’s going to be another quiet day as we only have the weekly gauge of mortgage applications and the measure of September inventories to contend with, so not much to speak of today. We’ll see data tomorrow that will actually have some teeth with the September trade balance and the October budget statement, although the markets are all but comfortable with these disappointing figures. We’ll also see if the weekly jobs numbers can remain south of that stubborn number of 400K or if this was just a temporary jump.

With the euro down about 1.5% this morning, all of the other currencies, except for the yen (JPY), are showing up in the red column. We have the Swedish krona (SEK), Norwegian krone (NOK), and South African rand (ZAR) bringing up the rear this morning. Since the euro pretty much sets the direction for most of the other European currencies, Sweden and Norway have been pushed down even though they aren’t a part of what’s wrong in Europe. Since a majority of their trade is within the European Union, they get punished as if they were a part of the euro and are labeled as such. I wouldn’t say that its justified, but it’s just market perception and eventually fundamentals will prevail.

This is definitely a risk-off type of day, so most of the financial markets find themselves in the red at this point. The high yielders, commodities, and stock futures are all off so far on thoughts global growth will wane and a European spawned credit freeze could ensue. As we have seen for the better part of this year, the markets take a statement or a situation and interpret it to one extreme or the other. In other words, one positive data report means the US economy is in the clear or as we see today, a roadblock or challenge in the Eurozone gets interpreted as a death blow for the currency and world economy.

Chris Gaffney sent me some thoughts to include, so here you go:

China’s efforts to tap the brakes seems to be working. Consumer inflation rose at an annual rate of just 5.5% in October, the smallest monthly increase in almost three years. A 5.5% inflation rate would certainly be of concern here in the US and in Europe, but China continues to have near double digit economic growth, so higher inflation would be expected. The government’s efforts to slow the Chinese economy were a source of a lot of market angst in the last several quarters, as many believed they would not be able to control price increases without forcing their economy into an abrupt slowdown. But this latest inflation reading indicates the government has been able to cool the price increases without halting economic growth. Chinese officials have also been helped out by the continued problems in Europe and the US, which have helped keep a lid on commodity prices.

These lower commodity prices have put pressure on the commodity currencies of Australia (AUD) and New Zealand (NZD). The Aussie dollar continued its decline yesterday, and has fallen almost 3% versus the US dollar during the first 9 days of November. China’s demand for Australia’s raw materials is likely to continue to fall in the near term which will continue to weigh on the value of the Aussie dollar.

But the declines in Aussie dollar and New Zealand dollar will probably be limited by the higher returns these countries offer. Even after the recent rate decrease, both Australia and New Zealand continue to offer investors a nice yield advantage over the currencies of Europe and the US dollar. These rate differentials should put a ‘floor’ under these two currencies, and limit the damage to investors’ currency portfolios.

Then there was this… All of the bad news flowing out of Europe lately has helped divert our attention away from just how bad things continue to be right here in the US, but a story appearing on CNBC’s website yesterday paints an ugly picture of the US housing market. The title says it all: “Half of US Mortgages are Effectively Underwater”. “Home prices continue to fall as a glut of bank-owned homes and lack of job growth continue to hold down the US housing market. The story states that 28.6 percent of the mortgages on single family homes are currently underwater. That equates to 14.6 million borrowers.”

But the story points out that many other homeowners have so little equity built up in their home that they don’t have the financial ability to move (no money for a down payment or moving expenses). Adding these homeowners into the calculation brings the total households ‘effectively’ underwater to over 50%. Not good news for anyone hoping a housing turn-around will help pull the US economy out of our current funk.

Thanks Chris for the fodder. So on that note, I’ll go ahead and wrap this up for today.

Mike Meyer
for The Daily Reckoning

Greek and Italian Turmoil Negatively Affect the Euro originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

As I mentioned yesterday, it was a data rich day, so let’s look at the tape and see what happened. But first, let’s see what Chuck had to say…

Well… Now you all can’t say that I didn’t tell you this was going to happen… First-quarter US economic growth slowed to 1.8%!!! Didn’t I tell you that 2010 was going to be the high for economic growth? Didn’t I tell you that without government stimulus, either through cash for clunkers, or whatever cockamamie scheme they were coming up with, the economy didn’t have legs?

And the Fed is going to pull the stimulus/financial cocaine away from the economy at the end of June? I would laugh out loud… But that would be insensitive! One of my fave lawmakers, and one of the few lawmakers that “has a clue”, Ron Paul, had this to say about Big Ben’s talk yesterday…

“It was more justification for a policy that doesn’t work. There was no explanation on how he’s going to get out of this. He did recognize, though, that price increases are significant and could be a problem in the future. It could be a significant problem for unemployment. He said it softly, but there were some words in there that convinced me that he knows that when inflation is admitted – I think it’s already here – but when he really admits it’s here, he’s really in a box. Because what he’ll have to do is raise interest rates, cut back on all the monetization of all this debt, buying all these securities, and then, in a weak economy, he’s in a mess.”

Yes, he’s in a mess, Bernanke that is… But… Remember what I told you about the end of QE2… It will fill the spirits of the dollar bugs for a couple of months, and then WHACK!

As Chuck just mentioned, the big news (and it wasn’t the royal wedding) was the initial showing of first quarter GDP here in the US. I guess the Fed’s downward revision of growth for this year on Wednesday afternoon was a foreshadow to the disappointment we saw yesterday. Most economists were looking for it to come in at 2%, but instead, fell to the slowest pace since the second quarter of last year and dropped quite a bit from last quarter’s 3.1% figure.

Dipping a little deeper into the figure, inventories rose at a $43.8 billion pace, compared with $16.2 billion in the fourth quarter. If we take inventories out of the picture, the economy would have only risen 0.8%. The housing/residential construction industry and the trade deficit both assumed their usual roles as they subtracted from GDP but manufacturing and durable goods spending more than provided the offset.

I found a comment from Bernanke’s press conference where he said that much of the slowdown in the first quarter is viewed by most on the committee as transitory. There he goes with that word again, transitory. As Chuck said, does he really believe the economy can stand up on its own without stimulus and shake the temporary slowdown that underperformed with the stimulus in place? Again, government spending has played a large role in our economic growth over the past couple of years and has displayed very little in terms of self-sustainability.

Moving on to the jobless claims, new applications for unemployment rose last week by 25K to 429K, which was the highest level in close to three months. While the four-week moving average on initial claims rose as well, we did see a drop in continuing claims by 68K to 3.64 million. Those collecting extended benefits also showed improvement by falling to 4.165 million, but there is still a lot of progress needed in this area to support a so-called moderate recovery.

We also had personal consumption for the first quarter rise more than expected by 2.7% but fell way short of the last figure of 4%. The Fed’s preferred gauge of inflation, core PCE, showed a higher-than-expected increase by rising 1.5%. Pending home sales showed mixed results as the monthly number rose by 5.1% but fell 11.5% year over year. Today will bring us personal income and spending along with some March inflation numbers.

If we sprinkle in some other secondary reports, such as the Chicago purchasing manager index, that gives us our day in data. Looking ahead to next week, we get our first look at the April jobs numbers with the ADP employment report, so that, coupled with factory orders, will be the focus leading us into the jobs jamboree on Friday. Other than that, there really isn’t too much on the data ticket here in the US as we kick off the first week of May.

Looking at the currency market, we had yet another day of retreat in the dollar as it declined for an eighth straight day. While returns were fairly tame for most currencies, we did see New Zealand (NZD) and Brazil (BRL) lose over 0.50% on the day as each had some type of less-than-ideal data that triggered a modest sell-off. The Brazilian real, which was the worst performer, saw a double whammy from slower credit growth and inflation.

Any inkling whatsoever that the pace of interest rate hikes may slow will send the real downward as this currency is a big destination for hot money, which are generally short term investors who are only looking for yield. Since this is still considered an emerging market, the rate differential is often used as a risk premium in that many investors would look past the currency if it weren’t for the interest rate.

Compare that logic to say, the Norwegian krone (NOK) or Swiss franc (CHF), where interest rates remain very low but are fundamentally sound. Total outstanding growth in Brazil only rose 1% in March and suggests higher interest rates are starting to filter through to the economy. Their broadest measure of inflation also rose less than expected by increasing 0.45%, which was the slowest monthly gain since last July. While the annual figure still increased by over 10.5%, it was still lower than the estimate of nearly 11%.

Inflation still remains well above their target so additional steps will definitely be needed to keep it under control, but the government likes to jawbone here and there in an attempt to convey that additional rate hikes really aren’t necessary and that they’ve already taken steps to address the issue. Moving on to a currency where inflation is not a problem, the New Zealand dollar came in second to last place.

The New Zealand central bank met yesterday and decided to keep rates on hold at the record low of 2.5% and looks to remain that way for the better part of this year. The central bank’s comments after the meeting are what stirred the pot. It’s not that he said anything earth shattering, but I guess he came off more dovish than what investors had hoped for.

Governor Bollard not only called the kiwi’s rise unwelcome, but also expressed that the outlook remains uncertain and given relatively low core inflation with continued economic disruption from the earthquakes, interest rates look to remain appropriate for some time. Again, the rise of the currency wasn’t necessarily due to strong fundamentals, but instead, it has been the carry trade and the fact that it’s getting grouped together with the Australian dollar.

As I came in this morning, the dollar index is flirting with its lowest level since July 2008. In fact, April will mark the fifth straight month of decline as interest rate expectations have risen in most countries except for the US. If we also take into account that risk seeking has steadily risen, the dollar didn’t have much of a chance, and that’s not even taking the underlying economic fundamentals into consideration.

To recap…The initial print of first quarter GDP came in lower than expected and doesn’t exactly lay the framework for the moderate recovery expected this year. First time jobless claims increased well above that hard-to-shake 400K mark while continuing claims fell. The dollar was lower for yet another day, but so were the New Zealand dollar and Brazilian real as recent data didn’t push the envelope for an immediate increase. Looking ahead to next week, we’ll see both factory orders and the results of April’s jobs numbers.

Mike Meyer
for The Daily Reckoning

First Quarter GDP Comes In Lower Than Expected originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

Before I head into the market movement, let me first get you up to speed on what actually happened with the Fed meeting. There really weren’t any curveballs thrown into the mix so it was pretty much what was expected. They kept the term “moderate pace” as the description of the economic recovery and continue to view inflation as temporary in nature. The cause of higher inflation is primarily being placed on the shoulders of commodities, namely oil, and food prices.

One of the obvious risks here is that commodity prices remain elevated for a longer period than what the Fed expects and has a broad spillover effect on the economy. Just ask the ECB about so called “transitory inflation.” They took the bull by the horns in an attempt to make sure they aren’t scrambling around when it’s too late. Commodities have also been tied to global growth. The trend has been higher growth feeding higher commodity prices and lower growth causing a fall in commodity prices. So does this mean the Fed expects lower growth?

I guess part of that question can be answered with the Fed’s reduction in their economic growth outlook. They lowered the range of expansion here in the US down to 3.1%-3.3% from the previous estimate given back in January of 3.4%-3.9%. The high end of January’s estimate seemed like wishful thinking anyway, but we would need to have global growth see the same type of downward revision if lower commodity prices would have any type of staying power.

The key focus surrounding the Fed meeting was QE2 and its future. While the end of round two in June was confirmed, Bernanke signaled that record stimulus will be maintained until job growth can stand on its own two feet and that a recovery is showing enough to withstand tighter credit. Chuck gave me some insight to share as well, so here you go…

Well, folks… Earlier this week I told you that: I expected the FOMC to say that they would be keeping the QE2 bond buying going until the scheduled end of June, and that they would keep interest rates unchanged. Yesterday, The US Federal Reserve signaled the end of its controversial $600 billion bond-buying program as planned, setting the stage for challenging decisions about whether to raise interest rates in the face of both high unemployment and looming threats of inflation.

Remember… I also told you that when it all ends, at the end of June, the markets are going to take it as a “sign” from the FOMC that everything is beautiful. When the markets feel this way, there could very well be a rush to the safe haven dollar once again, which would hurt currencies and commodities, including gold and silver… But it would only be a temporary scenario, lasting only as long as it takes for the markets to realize that the emperor has no clothes without stimulus… Which is when the Fed pulls QE back out of the closet, for the third round… and it’s at that point, that the dollar gets sold once again…

So, as an investor in currencies and commodities, you can stay the course, batten down the hatches and ride the storm out REO style… Or… You can sell ahead of June’s Close, and look to purchase again when the dust settles on this whole scenario…

Thanks to Chuck for sending those thoughts from way down south. I think I’ve gone on long enough about the Fed, so let’s move over to the durable goods numbers from yesterday. Demand for long lasting equipment rose higher than expected by posting a 2.5% increase and represented a third straight month of gains after the February figure was revised up to a positive 0.70%. Global demand and a weak dollar continue to keep factories busy on the export side but US companies have also been investing in capital equipment so far this year to take advantage of the new tax code that allows for 100% depreciation on certain items.

As I mentioned yesterday, the manufacturing sector has been one of the few areas of sustained improvement and should remain intact as long as global growth persists. There won’t be any shortage of data to look at today as we have the initial printing of first quarter GDP, personal consumption, and core PCE (which is an inflation measure). Since it’s a Thursday, we also have both the initial and continuing jobless claims, which are expected to show slight improvements. We then cap it all off with Bloomberg’s consumer comfort report and pending home sales. It looks like I’ll have a lot to talk about in the data department tomorrow.

Switching gears to the currencies, the dollar saw a significant round of selling yesterday as the dollar index traded below 73.30. The Fed announcement sent most of the currencies higher yesterday as confirmation interest rates in the US weren’t moving upward anytime soon. The rand (ZAR) turned in the best performance on the day by rising about 1.25% not only on interest rate differentials but also gold trading at new record highs. There were only two currencies that ended the day lower, which were the Japanese yen (JPY) and Brazilian real (BRL).

The yen lost about 0.75% yesterday as S&P cut Japan’s sovereign rating outlook. While it’s just the outlook and not an actual rating cut, S&P is concerned about the costs associated with the quake rebuilding efforts adding to their already heavy debt load. They estimate it could cost as much as 50 trillion yen ($611 billion) to rebuild and move the debt-to-GDP ratio up to 145% in 2013. If that wasn’t bad enough, retail sales for March fell the most in 13 years and could get even worse. Chuck also had some thoughts to share on Japan, so here he is…

Remember the Beatles song: I don’t want to spoil the party so I’ll go… I would hate my disappointment to show, there’s nothing for me here, so I’ll just disappear…?

That must have been the song they’ve been singing at the credit agencies for the past decade! But, now that the girl failed to show up for the party, they’ve decided to come to the party late! After downgrading the outlook to negative last week for the US… S&P followed up that bomb with another, downgrading Japan’s outlook to negative… Isn’t that sort of like pouring salt in one’s wound? S&P cited the earthquake in Japan as one of their reasons for the downgrade! Memo to S&P… Just like the US, Japan’s outlook should have been downgraded years ago!

If you haven’t had an opportunity to evaluate your yen holdings, if you have any at all, it might be time to consider a change while the yen is still relatively high. No need to go down with the ship, at least that’s my opinion, for what it’s worth.

Aside from the usual suspects involved with the high yield story, I’ll touch on the big reports from Australia and the UK yesterday. As I mentioned, we were waiting for the results of Australia’s first quarter inflation report to gauge the likelihood of the RBA coming back to the rate hike table sooner rather than later. Well, consumer prices rose the most in five years as the CPI index jumped 1.6% from last quarter while rising 3.3% year-over-year.

While some of this increase can be attributed to higher food prices from the floods a few months ago, core inflation increased more than expected and just highlights the need for vigilance on the part of the RBA. The central bank meets next week so we’ll see if they provide any commentary as to their comfort level regarding these rising figures. With that being said, the Aussie (AUD) broke yet another record by trading up to 1.0879. I even saw a report calling for it to rise into the 1.12 handle within the next six months.

Finally, we had the initial reporting of first quarter GDP out of Britain post a 0.50% gain, which offset the fourth quarter contraction of 0.50% and provided some relief in the markets because there was a real risk of a disappointing figure. It looks as though manufacturing and growth in the service industry gave the needed boost to take them out of negative territory.

Other than that, the euro (EUR) broke into the 1.48 handle and silver got an adrenaline shot that sent it back above $48 as I left for home last night. In fact, it was up over $2.50 as I was turning my screens off last night and it saw an incredible one day swing from its high and low on the day of around $3.50. A strong stomach was definitely needed for silver’s action so far this week. Did I mention gold broke away from $1,500 and moved to a new record high of $1,530?

As I came in this morning, the assault on the dollar continued in overnight trading as the dollar index dipped below 73 and is barely hanging on to that figure as I type. The rand and kiwi (NZD) are the only two at this point in negative territory, so we’ll see what kind of impact today’s data has on the market.

To recap…We finally saw the event that everyone was waiting for, which was Bernanke’s post Fed meeting commentary, and pretty much yielded the expected result. We’re going to see rates on hold for an extended period of time, QE2 will end in June, and the Fed continues to see moderate growth. Durable goods came in better than expected and we now get to see the initial printing of first quarter GDP. The dollar was sold once again across the board except against yen and the real. S&P downgraded Japan’s outlook and Australian inflation remains on the rise.

Mike Meyer
for The Daily Reckoning

S&P Cuts Japan’s Sovereign Rating Outlook originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

When trading opened in the US, silver was still holding on to the $46 handle but fell all the way down to $44.6550 before finally ending the day above $45. Volatility in silver is historically higher than gold simply because the market is smaller but other players have entered into the volatility equation as well. The huge run up in silver and $1,500 gold has attracted a new breed of investor, so volume has picked up significantly.

The relatively large price swings encouraged quite a bit more trading as opposed to the classic buy and hold investors who are using silver as a longer term inflation hedge. Since it hasn’t broken through that all-important line in the sand of $50, I think there was a bit of disappointment floating around, which encouraged some to take profits. In addition to those feelings of disappointment, there have also been thoughts of some type of correction swirling around the markets, which has some traders anxious as well. The bottom line is, expect this type of volatility to persist for a while.

Before I head into the currencies, let’s touch on the data releases in the US economy. We saw the results of the February S&P/Case-Shiller home price index and showed yet another decline. The index fell to 139.27, which was a 3.33% year over year drop, and was worse than what most economists had expected. In fact, we came dangerously close to eclipsing the six-year low that we saw back in April 2009. As home prices have fallen and can’t get up, calls for a double dip in housing are again becoming a grave concern.

There has been very little, if any, good news about the housing industry and the responsible factors don’t show any signs of easing. The supply of homes continuing to mount from foreclosures, homebuyers either not qualifying for loans or underwater to the point that they are handcuffed, a lack of sustainable and material job creation, and general economic uncertainty all point to a continuation of this trend. We even had Geithner seemingly throw his hand up in the air when he said that we’re just at the beginning of trying to figure out how to fix the mess.

Speaking of Geithner, Chuck sent me some thoughts last night…

“I saw a report yesterday that said, ‘Treasury Secretary Timothy Geithner said the US will never embrace a strategy to try to weaken the dollar for global trade advantage.’

“Hmmm… If that’s so, then why does he back his buddy, Ben Bernanke and his zero interest rates, his money printing, or debt monetization (A.K.A. quantitative easing 1&2)? Does he truly believe that those are things that would support the dollar? I hardly think so, folks… But it makes for good copy, eh?”

Thanks again, Chuck.

In the same breath, we also had April consumer confidence rise to a figure of 65.4 from March’s 63.8 showing. Just to give some perspective, the report averaged around 97 in the past expansion period so we are well below what would be considered good times. Having said that, I’m at a loss right now. Looking at all of the negative wealth created from the housing mess, sky high food and gas prices, unemployment at close to 9% (according to the government), a sluggish overall economy, and not much in the way of comforting news, I just don’t see much to be confident about.

While consumer confidence is still very fragile, it just goes to show you how important the stock market really is when it comes to this figure. I know the labor market has shown signs of improvement, but nothing sustainable at this point. Never mind the fact that jobless claims are still hovering around 400K and companies such as McDonald’s and Wal-Mart are warning of price increases. It seems like as long as we see our stock portfolio values rise, we can put the other things aside for the moment. I’m all for being confident, but I need a nice strong foundation before I walk across that bridge.

Today is going to be a big day in the data department. We’ll not only see the results of durable goods, of which manufacturing has been the glue holding the pieces together, but we also get the FOMC rate decision. Nobody is really looking at the interest rate, as it won’t move, but all eyes are on Bernanke and what he says at the press conference following the meeting. This will be the market mover today and his comments about QE2 will garner all of the focus, so I’ll have more on that tomorrow.

Moving over to the currency market, the dollar was sold pretty much across the board on thoughts the Fed will not only reiterate its stance to keep rates low for an extended period but also carry out the remainder of QE2 without any type of reduction. As long as Bernanke doesn’t throw us any curveballs, risk appetite should remain strong and investors should continue looking for higher yields elsewhere, which would perpetuate the bias to sell dollars.

There was a tie for the best performing currency yesterday as both the New Zealand dollar (NZD) and the South African rand (ZAR) both appreciated just under 1%. It looks as though the carry trade may have been the wind behind their sails, but thoughts that New Zealand will continue to recover as global growth continues to rise provided the foundation. The kiwi got another boost from the spillover effect of the Aussie trading just under 1.08. Interest rates aren’t expected to move anytime soon as the economy still remains in a fragile state and inflation remains tame, so its ratio to the Australian dollar (AUD) could have a larger influence on the direction of the currency.

I guess I should talk about the Aussie since I’m already there. We saw the currency trade at yet another record yesterday as it rose all the way to 1.0797. We have the first quarter inflation report due today so any signs of a pickup in consumer prices will just put additional pressure on the RBA to raise rates. We already have the strong labor market applying pressure in the way of wage inflation, so CPI would either advocate an imminent rate hike or push one out until later in the year.

The Norwegian krone (NOK) received the bronze medal as it came in third place by rising about 0.75% on the day. The same drivers were at work, in that it’s a commodity-based currency with interest rates projected to move higher. Throw in oil remaining at triple-digit levels and a higher euro, and you have the recipe for appreciation. Oh, and don’t forget its one of the most fundamentally sound economies in the world.

The Swiss franc (CHF), which is the best performing currency over the past year, appreciated yet again by rising over 0.50%. This time it wasn’t safe haven buying that sparked a rise but instead exports showing an increase in the first quarter. Adjusted foreign sales rose 6.1% from last quarter as increased demand from Asia and the Eurozone are adding to the Swiss economic momentum. The Swiss government raised its 2011 export forecast to 4.1% from 2.6% and is expected to climb even though the franc has continued to rise.

Other than that, most of the other currencies were either at breakeven or showed a modest appreciation. The pound sterling came in at a slight loss as factory orders fell in April and doubts continue mounting that interest rates will increase even though inflation is running well above their target. We get the initial report of first quarter GDP, which is expected to show an increase after the fourth quarter contraction, so that should set the tone for pounds today.

As I came in this morning, the dollar selling bias has largely remained intact but there hasn’t been much in the way of any large sweeping moves so it looks like the market doesn’t want to go one way or another until we hear from Bernanke. Silver has even seen restraint as it’s only down a few cents instead of the whole dollar incremental moves over the past several days.

To recap… Silver continued its volatile trading pattern as we saw nearly a $2.50 swing from its high and low of the day while gold held onto $1,500. Home prices continue to show weakness in housing and not much in the way of any improvement. Consumer confidence rose even though food and gas prices continue to rise while home prices continue to fall. The Fed meets today but all eyes are focused on what Bernanke says after the meeting. Interest rate differentials and commodity currencies again topped the list and Australian dollars hit yet another record.

Mike Meyer
for The Daily Reckoning

Expect Volatility in the Silver Price to Persist originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

The housing data out of the US didn’t exactly give investors feelings of comfort. In fact, sales of new homes in February fell out of bed by dropping 16.9% to a 250K annual pace, which is the slowest on record. At the same time, the median price fell 8.9% year over year to $202,100 from $221,900 in February and marked the lowest level since December 2003.

While the January figure was revised up to 301K, we didn’t even come close to the expected figure of 290K. New home purchases fell to record lows in three of the four regions, with the Northeast and Midwest leading the way by dropping 57% and 28% respectively. I know some of these horrible numbers are attributed to rough winter conditions, but the bleeding will continue as long as foreclosures keep climbing.

New home sales are often seen as a current barometer because the sale gets counted when the contract is signed instead of when the contract closes with a previously owned home, which account for about 90% of the housing market. We’ve already seen housing starts fall to nearly a two-year low in February and construction permits falling to a record low so there wasn’t much optimism to begin with, but this has opened some eyes to the fact that the overall economy still has a long way to go.

The other report from yesterday morning was the always volatile weekly mortgage application figure, which showed a gain of 2.7%. Lower interest rates were a contributing factor but the fact that home prices have been falling like a rock and approaching levels that seem like bargains have some trying to catch the bottom of the market. We need to remember that completing an application is one thing, but actually getting it approved is another.

Right out of the gate this morning, we have a few reports due out, which include February durable goods orders. The aggregate figure is expected to slow down to 1.2% from the revised January figure of 3.2%, however, the report excluding transportation is expected to show improvement from the previous figure of -3.0% up to positive 2%. Keep in mind that durable goods are products that are meant to last at least three years. Again, manufacturing has been one of the select few keeping the economy afloat.

Since it’s Thursday, we also get last week’s initial jobless claims as well as the continuing claims, both of which are expected to show marginal improvement. While the number of those collecting emergency and extended benefits doesn’t print, I think this is a very relevant figure and should be taken into consideration, as there are currently 4.36 million in this category. Employment is the foundation to the economy as a whole, so until we see a sustainable and meaningful improvement in labor, we’re going to continue seeing these soft housing numbers and the calls for continued stimulus measures.

As I mentioned at the top, it was a day for the US dollar relative to most currencies but we didn’t see any pullback in the commodities of gold, silver, or oil. In fact, as I left the office last night, gold was trading around $1,440 and silver was nearing the 30-year highs well above $37, so we also had a flavor of safe haven or flight to quality hitting the markets. It wasn’t an all-out aversion of risk or safe haven type of day as the stock market and a couple of currencies actually gained, but traders were more interested in selling anything Europe.

As I mentioned yesterday morning, the bad news started rolling out of Europe first thing as the minutes of the last Bank of England policy meeting suggested they aren’t as close as many thought to raising interest rates, by saying there was merit in waiting to see how the price of oil impacts the economy. I think the market may have gotten ahead of themselves in both interest rate expectations and driving the currency higher on Tuesday when it ran up to 1.64.

We also saw a government report yesterday morning that lowered 2011 growth expectations down to 1.7% from the last forecast of 2.1% in November. The BOE is in a position where it needs to maintain lower interest rates in order to make financing the debt more accommodating as well as providing stimulus to an economy that can’t stand on its own two feet. Anyway, the fact that policymakers signaled that rates weren’t going higher at this point made the pound (GBP) the worst performing currency on the day.

The other news out of Europe that discouraged investors was due to the fact that Portugal’s parliament rejected a deficit cutting plan along with EU leaders delaying their decision for funding a regional bailout system. After the announcement from Portugal, we saw the euro drop into the 1.40 handle and wasn’t showing any signs of stabilizing as I left the office last night. The news wasn’t released until late in the day, so the markets were pretty thin at that point.

The issue at hand is that yields remain at unsustainable levels and would technically force Portugal into insolvency. The ECB only recently stepped in to buy some debt in an attempt to keep it from going sky high, but this hands off approach is a clear sign to many that Portugal is very close to hitting the rescue fund for a bailout. This situation has been some time in the making so it doesn’t come as a complete surprise, but it still casts a shadow.

The more disappointing development came from speculation that final plans to overhaul the European Financial Stability Facility (EFSF) would be pushed off until June. This scenario was one of the stumbling blocks for the euro that Chuck was talking about a few weeks ago when the euro began to climb. We really need to see the establishment of the European Stability Mechanism, which requires a treaty change and provides much more scope in dealing with crisis situations, before the currency can break out.

There was really one currency yesterday that had any type of legs, and that was the Australian dollar (AUD). It seems traders were reducing bets that the government would cut interest rates next month, so we actually saw the Aussie rise about 0.4% on the day. We have the bi-annual Financial Stability Review coming out, so that should give us a bit more direction and at least some good sound bites to work from.

The New Zealand dollar (NZD) also posted a gain, but this time it was on its own merit. The current account deficit narrowed to 2.3% of GDP and was the lowest figure in 10 years. Much of this had to do with a lot of capital inflow for the earthquake rebuilding efforts and other one-time payments, so taking those out of the equation, the deficit stood at 4.1% of GDP. The good news, however, was that 4th quarter exports were up 20% from the same time last year.

As I came in this morning, the markets have at least stabilized and even reversed the selling we saw late in the afternoon. In fact, the only currencies down at this point are the pound sterling and Swiss franc (CHF) as all of the other currencies are on the positive side. It looks as though the debt problems in Europe are being overshadowed, at least for now, by thoughts of a rate hike from the ECB. The yields on Spanish debt haven’t shot up as of yet after Moody’s downgraded 30 Spanish banks, but I’m sure that won’t be too far behind as it seems like the market tends to focus their efforts and may concentrate on Spain once Portugal falls to the pressure.

To recap… New home sales were an even bigger disappointment than existing home sales as they fell to a record low and sales prices fell to the lowest level since December 2003. We have durable goods orders and the weekly jobs numbers to look at this morning. The BOE released the minutes of their last policy meeting and showed they may keep rates on hold longer than previously thought. The debt problems in Portugal look like they’re at a point where a bailout will be needed and a solid plan or mechanism to deal with crisis situations in Europe might be a couple of months away.

Mike Meyer
for The Daily Reckoning

New Home Sales Plunge originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

While only a handful of the major economies had any economic reports hit the airwaves yesterday, the US only had a couple of minor events. As I mentioned yesterday, the FHFA house price index (Federal Housing Finance Agency) was expected to re-affirm housing data that we saw a couple of days ago that didn’t show any bright spots. We saw the same disappointing data as prices came in below expectations by falling 0.30% from December and 3.9% from this time last year.

This data measures transactions of homes financed with mortgages backed by Fannie Mae or Freddie Mac. It was the same old rhetoric as to the cause, which would be foreclosures remaining at high levels that add to the already high supply of homes in the market. The fact that about 23% of homeowners with mortgages had negative equity in the fourth quarter acts like concrete shoes that’s keeping housing submerged. That is awfully close to 1 in 4 mortgages being underwater.

We also had manufacturing in the Richmond Fed district slow quite a bit more than expected, down to 20 from a figure of 25 back in February. Manufacturing has remained one of the few bright spots here in the US, but I guess last month was tough in that region. Maybe it was the weather, but in either case, this can be a volatile report so no need to spend much time on it.

We have a couple of things to look at this morning as weekly mortgage applications and new home sales are released. The mortgage application report can be all over the place and is highly sensitive to interest rates, so looking back to where the 10-year yields were trading, I would say look for a higher figure. While this does provide some insight as to expressed demand for a refi or purchase, there are many other reports that provide better data.

One of those reports would be the new home sales figures that we’ll also see out this morning. Again, same old story. Mounting foreclosures are causing problems as cheaper priced distressed homes that have been previously owned detract from sales of brand new homes. Builders have also cut back on the new home supply so home construction should remain on the low side. I think the majority of homebuilders aren’t very hopeful that 2011 is going to turn out much better than 2010.

The best performing currencies on the day were again the commodity currencies. While gold and silver didn’t do much of anything, they did stay on the high side as gold was trading around $1,425 and silver around $36.30 when I was packing my things to go home last night. Any increase in the Middle East tensions would look to be short-term price drivers.

Moving over to oil, we did see this commodity move higher on the day. While we currently have two cooks in the kitchen, which would be the tensions in Libya/Middle East and events in Japan giving direction, prices ended the day at $104. Increasing optimism out of Japan sent oil higher, as the markets looked past current events and more toward the rebuilding stages, which would boost demand for many commodities. Reports are also out that Japanese refineries are processing more oil that previously expected.

The dollar index traded in a tight range as it remained in the mid- to low-75 handle, bouncing from the low of 75.25, and held steady at the lowest levels since December 2009. Since the euro (EUR) accounts for a big proportion of the dollar index, the exchange rate hovering around 1.42 was certainly a contributor. Since risk tolerances have been rising, it looks as though the markets are seeking higher yielding currencies or economies where rates are at least in a position to rise.

One of the other nations that had some economic data to talk about was South Africa, whose rand (ZAR) appreciated the most on the day. Its 0.70% rise against the dollar was due to the fourth quarter current account deficit falling to the lowest level in seven years. The deficit fell to 0.6% of GDP from 3.1% in the third quarter and has narrowed from a figure of 7.1% in 2008. This has been a point of contention along with an overall unstable fundamental base as a whole for investors for quite some time.

I guess the big question mark now deals with the sustainability of this going forward. A closer look at the numbers show us that export volumes actually slowed in the fourth quarter, but its value rose by 5.5%. Couple that with import volumes shrinking for the first time in over a year as economic demand slowed, and we get the significant move that we saw. While it was positive news and is better than the alternative, we still see too much risk associated with the rand.

While the Australian (AUD) and New Zealand (NZD) dollars finished in second and third place respectively, the other currencies that did end the day on the positive side were all lumped together. Moving on to the United Kingdom, we saw inflation surprise on the upside and the pound (GBP) trade up to 1.64 for the first time since January 2010. The higher inflation has investors speculating as to when the BOE will finally raise interest rates. Economists were starting to price in a rate hike as soon as July instead of the previous estimate of August.

The CPI for February rose to 4.4%, which was higher than the estimate of 4.2% as well as the January figure of 4%, and represents the fastest pace in over two years. Consumer inflation is now more than double the government’s 2% target, and with commodity prices continuing to rise, there doesn’t seem to be much relief. Retail price inflation, a measure of the cost of living used in wage negotiations, rose to 5.5% and marked the fastest rise in almost 10 years. The UK is in a tough position because something has to be done about inflation but the economy isn’t exactly in a place to deal with higher interest rates.

Looking at one of the currencies that actually lost on the day, the Canadian dollar (CAD) had mixed results from their economic reports yesterday. We saw February leading indicators surprise on the upside by rising 0.8% to a nine-month high which was led by higher stock prices and manufacturing. The disappointment was the result of January retail sales as the aggregate figure and the measure less autos came in lower than expected.

If we take automobiles out of the equation, retail sales actually broke even from December, but it was still disappointing. The fact that oil was higher on the day helped limit the loss yesterday to around 0.25%. As I mentioned at the beginning, most of the currencies remained in a tight range all day, so I think investors will want to see more reports to get a better gauge of where the Canadian consumer actually stands.

Other than that, we had some trade figures from Switzerland that came out as well. The trade surplus widened to $2.8 billion in February as exports rose 4.2% due to higher demand from Europe and the Asian economies. As always following a positive report, we had the SNB making statements that downplayed the economy in an attempt to bring less light to the situation and hopefully make investors think twice about buying the currency. I wouldn’t say it’s working very well as the franc (CHF) trades at 7-year highs.

As I came in this morning, there really wasn’t any direction either way in overnight trading as everything is sitting where I left them last night. The Swiss franc has seen about a 0.50% gain and has risen the most against the dollar, so it looks as though risk aversion might pick up today. Other than that, the pound sterling is bringing up the rear so far today as the BOE minutes were released from their last meeting and showed policy markers voted 6-3 to keep rates on hold so thoughts of an imminent rate hike have subsided for the moment.

To recap… We had more housing figures yesterday, which was yet another report showing a decline in home prices, and we get to see the colors of February new home sales today. The commodities, led by oil, continued to pull the currencies along for a ride and the dollar index traded in a very tight range. The South African current account deficit narrowed by the most in 7 years, British inflation now lies at more than double their target, and Canada has mixed results.

Mike Meyer
for The Daily Reckoning

It’s All About Housing originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

The housing figures released yesterday definitely disappointed as the sales of previously owned homes in February fell more than originally estimated and sent prices to the lowest levels in nine years. Purchases of homes fell 9.6% on the month from January to an annual figure of 4.88 million as sales fell in all regions. The median price also fell 5.2% from $164,600 to $156,100 as a continuous influx of distressed properties keeps flooding the market.

In fact, distressed properties accounted for 39% of sales and all cash transactions rose to a record 33%. All of this continues to point toward a situation where the typical homebuyer isn’t driving the market, so the fundamentals needed to provide any type of support just aren’t present. As unemployment remains at very high levels, thoughts of additional price drops, and a good number of homeowners who are underwater on their current financing, I just don’t see any type of improvement anytime soon.

As a result of these issues, I saw where RealtyTrac said early in the year they feel foreclosure filings may rise 20% this year. Many borrowers are also having a difficult time finding a mortgage, so there really isn’t anything that points toward a sustained recovery. Like we’ve said for quite a while now, housing depends on employment so until we have a sustained jobs recovery, don’t look for much to change in housing.

Today is set to be a quiet day with US economic figures as we only have two lower tier reports on the docket. One report is another gauge of home prices as we see the Fed Housing Finance price index from January. We have already seen some February figures so this report is kind of pointless, but nonetheless, it’s supposed to remain in negative territory. We also see the March Richmond Fed manufacturing index, which is expected to show a decline from February, and just measures activity in that district.

Moving over into the foreign currency world, it was definitely a risk tolerant day that culminated in a rise of many risk assets, such as currencies, commodities, and equities. Most of the currencies finished the day in positive territory, except for the yen and Swiss franc (CHF) once again, but the commodity currencies topped the list with Australia (AUD), Canada (CAD), and New Zealand (NZD) rounding out the top three.

Before I head to the currencies, the fact that Japan announced progress in cooling the nuclear reactors damaged by the quake and pre-emptive strikes against Qaddafi that has essentially grounded his air force, got things moving along yesterday. While there was at least some type of resolution brought to those geopolitical events, investors felt more comfortable and risk aversion was pushed to the back burner.

Oil rose higher on the day as concerns that the unrest may spread to other Middle Eastern nations, which increased uncertainty, so that put upward pressure on both gold and silver. All three of the assets finished the day higher and some feel that Japan, since it’s the world’s third largest oil consumer, could have a larger impact on the direction of oil longer term.

As I mentioned above, it’s no surprise that the Australian dollar was the big winner yesterday. Its exposure to commodities was the reason for its 1% rise on the day and pushed its way on the other side of parity as thoughts that its selloff may have been overdone began to surface. There weren’t any financial reports or statements from policy makers that prompted the currency rise, so it was strictly a case of higher market risk appetite.

I did find a report from BNP Paribas that calls for the Aussie to trade into the 1.04 handle but it didn’t provide any specific timetable. Their basis was higher commodities, specifically coal, as Australia is the world’s largest coal producer. The report said this is yet another reason the economy would stand to grow well into the future.

When you talk about Australia, it’s usually necessary to mention New Zealand in the same breath. The recent economic news out of New Zealand hasn’t been encouraging as their earthquakes prompted the central bank to cut rates by 0.50% on March 10. While the currency did end the day as one of the best performers, it simply rode the coat tails of the Aussie and higher commodity prices.

Economists have recently lowered GDP expectations in the fiscal year ending March 31, 2012 down to 2% from a 3.5% figure just three months ago. It appears that a weakening of recent activity and a delay in reconstruction are the main culprits and have many calling for rates to remain on hold until at least the fourth quarter. There just isn’t much in the way of strong fundamentals that would justify a stronger currency on its own merit.

The Canadian dollar was the third best currency on the day and rallied on the back of higher oil prices, its largest export. Tomorrow could be interesting as we have the federal budget announcement. However, a house committee recommended the current administration be found in contempt of Parliament for its refusal to fully disclose the cost of measures such as the corporate tax cuts. This isn’t anything that changes its strong economic fundamentals, but rather some internal political differences.

The one currency that you think would have been all over higher commodity prices and risk tolerances was the Brazilian real (BRL). However, it wasn’t able to gain any traction. I think uncertainty on how the government is going to deal with higher inflation is keeping some of the hot money at bay. The minutes of the March central bank meeting indicated that they would rely on raising reserve requirements more instead of rate hikes to address higher inflation.

Since inflation expectations have been continually rising in Brazil, the markets are beginning to think the central bank is already behind the eight ball and hasn’t been proactive enough to contain inflation. Whether the central bank is trying to jawbone the market into thinking interest rates may not go as high as they want, the government still needs to take appropriate steps to deal with the inflation problems before it’s too late.

There was some feeling of relief in the market yesterday as the situation in Japan wasn’t getting worse, which ultimately led to both the yen and franc posting losses. As I was leaving the office last night, the euro (EUR) was still holding on the 1.42 handle as one of Russia’s oil funds was authorized to buy Spanish government bonds. While the markets flip flop on the European debt situation, institutional investors and central banks still show a willingness to invest in the region.

When I came in this morning, the market was trading right about where it was yesterday, as its still holding onto the weaker-dollar bias with the commodity currencies still remaining on top. There hasn’t been much in the way of any meaningful moves overnight, so we’ll see what direction US traders take today. If the past few days are any indication, look for the bias to sell dollars continuing throughout the day, as there isn’t much in the data department to change things up.

To recap… The February existing home sales disappointed by falling more than estimated to a 4.88 million pace, or a 9.6% monthly loss. The big problems for housing have been raising foreclosures and high unemployment. Risk takers were out in force yesterday causing a run up in commodities, equities, and currencies; so the Australian dollar, New Zealand dollar, and Canadian dollar all benefited. Brazilian inflation expectations still remain on the rise.

Mike Meyer
for The Daily Reckoning

Housing and Unemployment Continue to Weigh on Recovery originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

I saw a report from UBS that basically told investors they should forget about yen strength, which certainly backs Chris’s call last week to consider exiting the yen while it’s still relatively high. I’ve had several conversations with investors as to the likelihood that we see a repeat performance after Japan’s 1995 quake when the currency ran up about 20%. I agree with Chris in that it doesn’t seem likely. The world is a much different place now and there are several factors working against a significant appreciation.

First of all, the interest rate environment is different. Back then, we had both the US and Germany cutting interest rates, so the rate differential was narrowing; as opposed to the current situation where interest rates globally are on the rise. In other words, the current interest rate environment was already working against the yen before the quake. Second, one of the few bright spots for Japan was its export strength. It has posted a current account surplus since 1986, so erosion to its trade surplus from increased demand on imports and limitations of some exports would pose a real threat.

We also have a situation where Japan could become the first G7 country to return back into recession after fourth quarter GDP contracted 0.3% as government stimulus was being removed from the economy. Limited economic growth and falling consumer prices before the quake weren’t exactly positive points either. While continued repatriation of funds back into Japan could keep the yen exchange rate sticky for a while, the continued thought of intervention and weaker economic numbers should eventually win out.

Moving west into the United States, its going to be a busy week in the economic data department. Today, we have the existing home sales figures from February. The expected result from a majority of the economists is a drop of 4.7% to an annual pace of 5.11 million. We saw sales of previously owned homes rise to an eight-month high in January, but foreclosures and short sales rising to a 12-month high was the catalyst behind that move. In fact, the foreclosure inventory rose to a record 2.2 million in January, with another 4.7 million households not current on their mortgages.

It’s really a foreclosure and distressed-property driven market, as investors are hand picking real estate that is being thrown in a fire sale by individuals needing to sell, or banks just wanting to unload repossessed inventory. Either way, it’s not exactly a sign of a market returning back to health. While we do have some important numbers to look at this week, such as durable goods and personal consumption, I think most investors are waiting for the final revision of fourth quarter GDP on Friday.

As it sits right now, the expectations call for an expansion of 3% instead of the current revised figure of 2.8%. The original projection for fourth quarter GDP was 3.3%, so it looks like we’ll remain lower than the estimation, but higher than the third quarter number of 2.6%.

As Chris mentioned on Friday, the Swedish krona (SEK) was the best performing currency as it ended the day up by over 2%. There was basically a 3-way tie for second place as New Zealand, (NZD) Australia (AUD), and Norway (NOK) all posted gains of just under 2%. Higher inflation is one of the factors driving rates higher in Sweden, but house prices are also applying some pressure.

Home prices rose 3% in the three-month period through February compared to the same time last year. Prices have risen on an annual basis for 22 consecutive months and caused the central bank to signal that this credit-driven growth may prompt it to pick up the pace of rate hikes as it also deals with the EU’s quickest economic rebound. Chris left me a note to share with you as a few readers had a question regarding the repo rate he had discussed on Friday, so here’s what he had to say:

A repo rate is the discount rate at which a government will agree to repurchase government securities from commercial banks. So these commercial banks can swap their securities at the central bank for cash, increasing liquidity in the markets. If the central bank wants to create more money in the system, they lower the repo rate (sometimes called the discount rate) and more banks bring their securities to the government to swap to cash.

If the government wants to pull in liquidity, it raises the repo rate making it more expensive for banks to swap their treasuries for cash. Repo rates act the same way as the fed funds rate, and is just another tool the central bank can use to adjust liquidity in the markets.

Hopefully that helps to answer some questions.

Both the Australian and New Zealand dollars gained as equities and commodities rose, prompting investors to assume more risk. The winds behind the sails of the Norwegian krone were comments from the central bank that they were less concerned about the krone’s appreciation when evaluating economic policy. In other words, they are giving themselves more scope to raise rates in an attempt to keep housing under control. The central bank, Norges Bank, said the krone is strong but they aren’t especially worried and also said there is a 50% chance of a rate hike in May or June.

Norges Bank has maintained verbiage for a while now that rates were not moving any higher until, at the earliest, mid-year so this change in sentiment fueled more buyers of the krone. It seems that the ECB’s willingness to raise rates in the near term may have been enough to push Norway over to the hawkish side of the fence. Taking into account that a majority of Norwegian exports are petroleum, it looks increasingly likely the economy can withstand higher exchange rates. The fact that interest rates weren’t expected to move as high as previously expected has kept a lid on the krone over the past year, but now that it has been loosened a bit, hopefully it will play some catch up.

Moving over to the euro (EUR), we saw the currency trade well into the 1.41 handle and finished the day up 1%. It seems as though Trichet re-affirmed his plan to raise rates, saying he doesn’t want to change his message on the need to contain inflation. When asked if policymakers still see an imminent rate increase, he said that he had nothing to add nor to withdraw in regard to ECB statements that it may need to raise interest rates in April.

Bets have been increasing that the ECB will push a rate hike out longer as a result of the Japanese earthquake and related events, as Trichet said that the potential impact of the earthquake and aftermath is something we will be thinking deeply about in the coming days. That still doesn’t change policymakers’ concerns over the second round inflation effects, which is where companies increase prices and boost wages to compensate for higher costs that just perpetuates faster inflation. In any instance, euro area inflation rose well above the 2% target to 2.4% last month.

As I came in this morning, most of the currencies are trading higher today except for the yen and Swiss franc (CHF). It seems as though the intervention efforts by the G7 are having the desired effect, at least thus far, as the yen hasn’t seen any sustained appreciation. It doesn’t look like the market wants to challenge the Bank of Japan or the G7 at this point, so look for the yen to hover around current levels with a sell bias until investors have a chance to fully evaluate the situation.

To recap… The markets were digesting the G7 intervention into the yen, but weren’t scared away as the currency rose from its low of the day on Friday. Many aren’t looking for a repeat of 1995 where the yen appreciated quite a bit in the aftermath of that earthquake. It’s a full week in the US data department with the results of existing home sales due out this morning. Rising home prices in Sweden are just another reason for higher rates. Norges Bank expresses more comfort about a stronger currency and higher rates. The ECB remains focused on higher inflation.

Mike Meyer
for The Daily Reckoning

Will the Japanese Yen See a Repeat of 1995? originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

As I mentioned yesterday, all of the gains we saw from Wednesday were wiped out and then some as Asia and Europe took over the reins. It’s almost as if Wednesday didn’t even happen and we went directly from Tuesday over to Thursday. The currencies and metals are pretty much trading in the same range, but there are several currencies that have gotten roughed up a bit.

The dollar received its initial boost in Asian trading as we saw some disappointment with Australian jobs, but European traders pushed it to the top of the pile mainly as a result of the on again/off again debt fears; and the rumors about Weber didn’t help any. Before I get into the whole currency picture, I’ll touch on the data that had US traders carrying the dollar-buying torch.

We finally saw the report that everyone was waiting for this week, which was the weekly jobs figure, and they didn’t disappoint. The initial claims and the continuing claims both fell more than expected. The initial claims fell by 36K down to 383K and represents the lowest figure since July 2008. While this is definitely welcomed news and hopefully we keep seeing this type of improvement, there is still a lot of tunnel left before the light is bright enough to make an appreciable and sustainable difference.

The number of continuing claims decreased as well by falling 47K to 3.89 million. However, the story is a bit different here. While this info lags a week, the number of those who have used up their traditional benefits and are now collecting emergency or extended payments increased by 84K to 4.64 million. While the number of initial claims may continue to moderate due to lean staffing, the number of extended benefit recipients may continue to grow as companies remain reluctant to hire.

We also saw December wholesale inventories increase by 1%, compared with the expected rise of 0.7%, and an upward revision to the November figure from -0.2% to 0.0%. At the current sales pace, wholesalers had enough goods on hand to last 1.16 months, which is very close to the record low of 1.13 months from last April. The January budget of -$49.8 billion came out worse than December and is better than the initial estimate, but we were still $50 billion in the hole.

There are only two items on the docket today in the way of US data, which includes the December trade balance and the U. of Michigan confidence report. The trade deficit is expected to widen to a $40.5 billion shortfall in December, from the previous month of $38.3 billion, as a result of higher oil prices. Economists also see higher import numbers as inventories are replenished from holiday shopping.

The consumer confidence report is the preliminary or initial peek at this month’s number, which is expected to show an increase from January’s unexpected small drop. I guess they don’t interview the unemployed on these types of reports, because if they did, I would think figures would be coming in lower. Looking ahead to Monday, we have a full day with empire manufacturing, the import price index, retail sales, TIC flows, and business inventories. Looks to be a busy day indeed.

Moving into the currency world, there really weren’t any that could climb out of the hole from early trading. The Mexican peso (MXN) and Canadian dollar (CAD) were very close to breaking even, and oddly enough, the pound sterling (GBP) didn’t see the kind of selling pressure that other European currencies experienced. The worst performers were the Norwegian krone (NOK) and Swiss franc (CHF), both posting about 1.25% losses, with the others coming in somewhere between 0.5% and 1% shortfalls.

As I touched upon at the beginning, European traders did a number on the euro (EUR) before we were even sitting down with our morning coffee. They ran the euro down a full cent on growing concerns that Portugal’s funding costs were rising beyond sustainability. In fact, yields on 10-year Portuguese debt reached 7.64%, the highest since the euro introduction. The whole stir here is that if speculation keeps rising, Portugal will need to be bailed out if yields remain above 7%.

There were several other market disappointments so we definitely saw risk aversion grab a hold of trading and flow into the perceived safe haven of the US dollar. Asian and European stocks were soft as well so we had overall broad based dollar strength with no offsetting positive data elsewhere.

Immediately following the weekly jobs numbers here in the US, the euro fell down to 1.3577 but clawed its way back to the 1.36 handle for the better part of the day. The ECB reiterating the fact that the current interest rate environment still remains appropriate, coupled with the most hawkish member apparently calling it quits, have all but squashed any thoughts of a rate hike this year or early next year, at least for the moment.

Looking at the outcast of the day, the story in Norway was all about interest rates and the notion that they won’t increase as quickly as previously hoped for. The smudge came from the fact that the inflation rate dropped more than anticipated. The annual underlying inflation figure, which excludes energy and taxes, slowed to 0.7% in January from the previous 1% mark. This pretty much rules out hopes of a rate hike before the previously anticipated June hike that many economists were looking for and could give Norges Bank even more scope for a longer pause.

This inflation report was sort of a double whammy as the day before policymakers had downplayed the effects of the hot property market and higher credit levels. They basically acknowledged these higher levels and just said they weren’t alarming just yet. Norway doesn’t want to stray too far from euro zone monetary policy much like Canada to the US. I think the market reaction was a bit exaggerated but just gives us an opportunity to buy at cheaper levels.

We saw the same type of scenario out of Australia, only it was jobs that have some re-evaluating the interest rate path. There wasn’t any type of collapse in the employment figures, and in fact, they added 24K jobs in January and the unemployment rate held at 5%. The focus was placed on the fact that 8K full time jobs were lost. The preliminary estimate was a gain of 17.5K, so it beat that, but the full time loss is the disappointment.

Traders saw that news and ran with it in terms of causing delays to any future rate hikes. The RBA said last week that businesses are reporting that the labor market has tightened, and looking ahead, a gradual increase in wage growth is expected if labor does tighten more. They also said the flooding should have short-lived economic effects, so we’ll see if parity presents any area of resistance.

Chuck sent me some much-appreciated thoughts to share with you today, so here you go:

What I have for you today is a thought on Singapore dollars (SGD) – one of our fave currencies, and of the money show!

My two presentations today were standing room only and doors closed on people trying to show up late! WOW! Everyone likes to hear the facts…the truth…and “Chuck speak” I guess! I was beat when the day was over… Two down and two more presentations tomorrow! Friday’s presentations won’t be as “hard hitting” as the two today… One other thought on the show… This is the most people I’ve seen here in years! And the vendors are back too! I guess Big Ben is doing his job well, propping up the stock market…

So… Here’s my two cents regarding Singapore dollars… First of all, we can all agree that the Singapore government does things quite well, eh? So… This is what I imagined today… The Singapore government is watching the riots going on and the political upheaval that food inflation has caused around the world… And they think, “What if that were to happen in Singapore?” OK, being the good government types that they are, they go into preventive mode…

And what could they do to prevent food inflation from triggering upheaval in their country? Well… They prevent food inflation from happening! And what can they do to prevent that? They can allow the Singapore dollar to continue to get strong… Don’t I always tell you that a strong currency goes a long way toward fighting off inflation? Then I saw this…

The Monetary Authority of Singapore (MAS) announced that they would further strengthen the Singapore dollar if necessary to limit the effect of rising food prices. The government announced that they were keeping a close watch on inflation, and that the new budget would include measures to help Singaporeans cope with accelerating consumer prices…

I don’t see how any of that hurts the Singapore dollar, dear reader… Do you?

As I came in this morning, I saw a carbon copy of yesterday where the European traders have remained in the selling mood and have sent every currency, except the dollar, even lower. The fact that Egyptian President Mubarak is refusing to step down immediately is feeding into more safe haven trading.

This time is a bit different, though. The other so-called safe haven beneficiaries, yen (JPY) and Swiss francs, are getting sold along with the other risk assets. Gold and silver are even down some. At this point, it just looks like an excuse to prop the dollar so things don’t get out of hand too quickly in terms of the prior dollar selling.

To recap… The US dollar had a strong rebound and wiped out all of the gains and then some from Wednesday’s trading. The weekly jobs numbers and wholesale inventories showed improvement while the budget deficit widened. This morning we’ll see a consumer confidence report along with the trade deficit. European debt woes again resurfaced causing a selloff and spillover into the currency market. And traders were worried Norway and Australia would delay any rate hikes due to recent soft data.

Mike Meyer
for The Daily Reckoning

European Debt Problems…Again originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.

Couple that with the disappointing jobs jamboree figure and it appears the lower number of openings isn’t a result of increased hiring. I guess higher optimism helps breed future job growth, so hopefully we’re beginning to set the foundation.

The last data point was a weekly consumer confidence figure, which showed a fairly large drop. Again, this really isn’t a major market mover and can show some wild weekly moves. We’ll see a larger gauge of confidence on Friday with the U. of Michigan Confidence report but until then, all eyes are looking toward the weekly jobless numbers tomorrow. We do get another weekly report due out today with the MBA mortgage applications gauge. As we have seen the 10-year rising quite a bit lately, I wouldn’t see much in the way of progress in this department.

Moving on to the currencies, the dollar remained under pressure for the better part of yesterday and most of the gains in early trading remained in tact. Many of the top performers on the day were the high yielders with the Swiss franc (CHF) and Canadian dollar (CAD) bringing up the rear. We’ve seen this type of action before, so let’s go to Chuck and get some thoughts…

Mike is giving you the updates, so I think I’ll just talk to you about something that I’m seeing in Japanese yen (JPY)…

I’m beginning to see cracks in the yen foundation, folks. And with interest rates rising around the world, I’m thinking that the carry trade might make a return to the markets… You find that when risk aversion begins to fade, that risk trades, like the carry trade, will begin to become the norm again. So, for all of you new to class, or to all of you who have forgotten… The carry trade is a simple trade full of risk and potential reward… An investor simply sells a low-yielding currency (yen), and uses the proceeds to buy a high-yielding currency, thus booking the yield differential between what it cost you to borrow the yen to sell it short, and the interest you receive from the high-yielding currency…

All is well, as long as the yen doesn’t rise or Japan doesn’t raise their interest rates, and as long as the high-yielding currency doesn’t lose value, or the central bank doesn’t cut interest rates. Before the financial crisis of 2008, the carry trade was all the rage… But after things went to hell in a hand basket, carry trades were unwound, thus propelling Japanese yen to 25-year highs versus the dollar. Well… I fear that this may all be turning around once again… And when it hits its stride, yen will no longer be the currency to own… It would, in my opinion, lose its so-called “Safe Haven status”…

Just my opinion, folks… For what it’s worth…

Thanks Chuck for giving me a kick start this morning and it certainly makes sense to me. With all of the optimism floating around not only with global growth but also here in the US, it seems investors are becoming more and more complacent with risk. With that said, market volatility needs to remain muted in order for the carry trade to be effective so increasing comfort with the European and US economic uncertainties will definitely be needed.

Looking at the big winner from yesterday, the Brazilian real (BRL) appreciated by just under 1% and prospects of higher interest rates seemed to be the culprit. The fuel added to the fire was an increase in January consumer prices by the fastest pace since 2005. The monthly rate rose by 0.83% and translated into a 5.99% annual figure. The usual suspect for higher inflation at this point, food prices, was in play but they also have domestic demand contributing to these uncomfortable levels as well.

We now have traders starting to price in a rate hike for a second straight time next month, so that sent the real well into the 1.66 handle. While central bank officials claim inflation threats will fall as the year wears on from cuts in government spending and other unrelated costs, it seems the market isn’t so confident. The median target for interest rates by year-end among economists is still at 13%. I guess we’ll see how comfortable the central bank really is with inflation at their next meeting, but they are still standing behind thoughts of moderation.

We also saw the New Zealand dollar (NZD) and South African rand (ZAR) both rise about 0.5% as they were buoyed by the high yielders ascent from an easing of Egypt’s political problems. Again, South Africa wouldn’t be included on our favorites list, but they did make news yesterday as a result of their unemployment rate falling from 25.3% down to 24%.

This is the highest jobless rate of the 61 countries tracked by Bloomberg, so not exactly a positive. Rates don’t appear to be moving upward any time soon either, so any appreciation from the rand would come from gold or the coat tails of the other high yielders instead of its own merit.

The belle of the ball so far this year, the Swedish krona (SEK), posted yet another day of gains against the dollar and actually reached a 10-year high against the euro (EUR). This movement is primarily a result of the “risk on” sentiment in the market, but the Swedish economy has also been quietly chugging along. When you talk about Sweden, you also have to talk about Norway. The krone (NOK) found itself barely in the black yesterday but jawboning from government officials about currency gains have kept it restrained recently.

Looking at the other end of the spectrum, the Swiss franc had a rough day by falling about 0.75% against the dollar. The same factor at play that pushed Brazil upward had the opposite impact on the Swiss franc. Since the franc is a low-yielding currency that’s viewed as a safe haven, periods of higher optimism and risk exposure will do nothing to help the currency. This selloff came at the same time when the seasonally adjusted unemployment rate dropped to the lowest since April 2009. I would say the carry trade was in play yesterday.

Lastly, the market reaction to China was interesting. With the previous rate hikes, we saw significant selloffs in the risk assets on thoughts the Chinese government would slow their economy to the point where global growth would take a hit. I guess everyone is starting to figure out that tapping the brakes once in a while isn’t a bad thing and actually helps to keep the train on the tracks. In other words, just because China raises rates doesn’t mean their economy will come to a screeching halt.

We saw the US equity markets post gains yesterday, we saw gold rise about $15 and silver about $0.90, and we saw the dollar index down on the day so I think Chuck was right on the money yesterday when he said the Chinese didn’t surprise anyone. Additional hikes look inevitable at this point, so as long as growth scenarios in the US and Europe remain in tact, I think we’ll continue to see this type of market non-reaction from Chinese rate hikes.

As I came in this morning, everything is trading pretty much where I left them last night. The New Zealand dollar and South African rand have seen some selling pressures overnight, but other than that, all was fairly quiet. The dollar index is up slightly so far this morning but not much in the way of direction thus far. We do have Bernanke set to speak today so we’ll see if he says anything out of the ordinary, but I’m sure he’ll stick with the script of keeping interest rates low and focusing on jobs.

To recap…Another slow day for economic reports here in the US. The high yielders gained while the low yielders fell, so we are starting to see the carry trade re-surface. Brazilian inflation is still rising and South African unemployment drops to 24%. The Swedish krona rises against both the dollar and the euro while the Swiss franc had a tough day. The markets switched gears and blew off China’s rate hike.

Mike Meyer
for The Daily Reckoning

Is the Carry Trade Returning to the Markets? originally appeared in the Daily Reckoning. The Daily Reckoning, published by Agora Financial provides over 400,000 global readers economic news, market analysis, and contrarian investment ideas.