The dollar fell on Wednesday following a negative outlook from the FOMC meeting and surprisingly poor housing data. The Fed delivered a dovish FOMC statement, citing high unemployment, subdued inflation, modest income growth, a weak housing market, tight credit, as well as 'less supportive' financial conditions as reasons for keeping the policy rate 'exceptionally low' at 0.25%, for an 'extended period'. Also, there were no mentions of exit strategy this time round. New-homes sales plunged 32.7% in May to their lowest level on record. The April 30th expiration of the eligibility period for the homebuyer's tax credit was thought to have caused the steep decline as the expiration date encouraged homebuyers to bring forward purchases in April thus unrealistically inflating the data for that month and setting up a contrast with May. The same effect explained Tuesday's unexpected 2.2% drop in May existing-home sales. Commentators have expressed disappointment that the figures come three years into the U.S housing slump at a time of record-low mortgage rates. The poor data introduced an element of doubt in the recovery story and highlighted how fragile the economy is and how dependent it still is on government stimulus. With an age of austerity dawning around the world – particularly in Europe – and stimulus packages being withdrawn by weary and broke governments everywhere it certainly doesn’t bode well for the global recovery; and the effect on the dollar? Well, it was mixed given it is still a safe haven currency so benefited in a curious paradoxical way but doubts may even be creeping in about the sustainability of its high levels of debt too, which could work against the speculative demand from investors seeking a sure thing in the long term. The dollar fell to $1.2310 against the euro and $1.4955 against sterling.

   The euro had a mixed day as concerns over bank funding and future growth after austerity cuts created a bleak outlook. The spectre of another European bank downgrade rose its ugly head when Standard and Poors voiced concerns about the creditworthiness of Spanish lenders. This came after BNP Paribas’s downgrade earlier in the week and negative comments by an official from the Banque du France. Stress tests of the region’s 25 biggest banks will be published in July and there are fears about the outcome. With the US economy looking less robust with every economic release and the expected rise in the renminbi not materializing many are wondering for how long the present rally in the euro will last and there is little faith in a long term recovery taking root. The euro fell against the pound on Wednesday, to £0.8229, was down against the yen at ¥110.55 but managed to rise against the dollar to $1.2310.

   The pound catapulted up on the back of BOE minutes which showed that for the first time in 2 years a BOE official voted for a rate hike. Andrew Sentance voted to raise rates by 25 basis points from a record low of 0.5 per cent. Economic data was also stable and the market gave the thumbs up to the emergency budget, which has reduced the likelihood of a sovereign rating downgrade or a wholesale loss of confidence in UK government debt. Commentators have pointed out, however, that the UK economy will continue to face significant risks in the quarters ahead. There is also skepticism about the pound’s current rally with one analyst saying: “A tight fiscal and loose monetary policy mix is normally associated with a weak currency, and we think the pound is likely to remain at a historically weak level because the UK’s monetary policy stance remains the loosest of any major economy in the world.” Overall there is concern that the current multi-lateral fiscal squeeze may hide some ugly future economic truths as GDP’s start falling like dominos around the world. Sterling rose against ¥134.30 against the Yen and $1.4955 against the dollar.

   The yen further strengthened as poor economic data and a dovish FOMC report drove investors to its safe haven. Despite poor economic data at home showing a dramatic fall in exports the yen appreciated on global risk aversion after the US, so far heralded as the poster boy of the global economic recovery, revealed systemic weaknesses in the housing market and highlighted the extent the recovery has been oiled by Washington, as the drop in home sales came right after the expiration of the home-buyers tax credit. The dollar/yen pair fell below the psychologically relevant ¥90.00 yen level, ending the session at ¥89.80 and was up against the euro to ¥110.55.

Analysis prepared by:

Joaquin Monfort
Forex4you analyst