Upcoming US economic data is expected to be relatively optimistic on Monday, though they will fall short of suggesting that conditions in the US are truly improving.

What Are The Markets Facing?

Upcoming US economic data is expected to be relatively optimistic on Monday, though they will fall short of suggesting that conditions in the US are truly improving. The Empire Manufacturing index is forecasted to rise to -6.3 in March after plunging to a five-year low of -11.7 in February. A breakdown of the index will likely continue to reflect weakness in demand for manufactured goods and softness in the labor market. However, since very few indicators for this time period have been released, this index will serve as a good leading indicator for the next round of results of the Philadelphia Fed index, Chicago PMI, ISM Manufacturing, and possibly even Non-Farm Payrolls. Meanwhile, Net Long-term TIC Flows are anticipated to show a pick up in demand for US financial assets during January. However, demand for agency debt, such as holding for Fannie Mae and Freddie Mac, will likely weigh the headline reading down amidst speculation that the mortgage-finance providers are in hot water. Nevertheless, as risk aversion spreads throughout the global financial markets, purchases of Treasuries have benefited given its status as a safe-haven asset. However, this has also led yields to plummet, especially as the markets aggressively price in rate cuts by the Federal Reserve. According to a Bloomberg News poll of 78 economists, expectations range from a 25bp reduction to a more severe 75bp cut. However, following Friday’s news of a Bear Stearns bailout by JP Morgan Chase and the Federal Reserve Bank of New York, Treasuries are fully pricing in a 75bp cut and a 54 percent chance of a 100bp cut. Given the Federal Reserve’s continued efforts to alleviate the credit crunch, the broad deterioration of economic conditions (e.g., retail sales, consumer confidence, and labor markets), and growing risk aversion amongst investors, the odds are in favor of a 75bp cut.

Bonds – 10-Year Treasury Note Futures

Treasuries continue to look bullish. The contract has cleared the psychologically important 120-00 level with ease as risk aversion reigns supreme over the financial markets. If traders continue to seek safe-haven assets, Treasuries could climb towards the next level of resistance at 121-03. On the other hand, if the equity markets stabilize, the shift in sentiment could weigh the contract back down towards 120. Meanwhile, Monday’s US data may not play a big role in Treasury trade unless TICS prove to be extremely disappointing.

FX - EUR/USD

The EUR/USD pair continues to rally to fresh highs as ECB President Trichet’s commentary that the Bank is "concerned about excessive exchange-rate move" on Monday, the Federal Reserve’s attempts to restore liquidity on Tuesday, and news that Bear Stearns would have to be bailed out by the Federal Reserve Bank of New York and JP Morgan Chase were not enough to provide a sustained boost in the US dollar. Looking ahead, Monday’s US economic data may not be incredibly market-moving, though a stronger-than-expected Empire Manufacturing release could indicate a slight improvement in demand for US-made goods, while an optimistic TICS report may suggest that foreigners remain convinced that their US assets are still safe. Indeed, EUR/USD generally remains extremely overbought and the rally cannot go on forever, leaving the pair prone to sharp declines once the pair turns.

Equities – Dow Jones Industrial Average

The daily charts of the Dow Jones Industrial Average look highly bearish, especially after the index closed below 12,000 on Friday and signs continue to suggest that a credit crunch is taking a heavy toll on the financial sector. Where the Dow goes from here will depend primarily on the status of risk aversion in the markets as well as financial market news, but it is worth noting support below at the 50 percent retracement level of the rally from 9,708 (10/25/04 low) to 14,198.10 (10/11/07 high) at 11,950/53. On Monday, the release of the Empire Manufacturing and TICS indexes could help support equities if the news is better-than-expected, but if traders remain risk averse, there’s little doubt the Dow will tumble below near-term support to eventually target the 61.8 percent retracement level at 11,423.

Terri Belkas is a Currency Strategist at FXCM.