US Dollar: Will US GDP Figures Confirm a US Recession in Q3, Q4?

The US dollar ended the day mixed across the majors as high volatility spurred wild price action throughout the markets, but one thing is clear: US fundamentals are having very little bearing on the greenback as risk trends dominate. Looking at the US data on hand on Thursday, inflation figures suggested that the Federal Reserve will indeed cut rates further at their next meeting on October 29. The annual rate of CPI growth eased more than expected to 4.9 percent in September from 5.4 percent, as falling commodity prices led energy and transportation costs lower. While this is well above the Federal Reserve's comfort zone, the fact of the matter is that asset prices - such as property values - in the US are plummeting while waning domestic and foreign demand suggests that businesses will have little leeway to pass costs onto consumers going forward. As a result, upside inflation risks in the long run have fallen significantly, and if anything, the Fed is likely more concerned about the potential for CPI to fall uncomfortably low. Adding to this, industrial output fell 2.8 percent during September - the sharpest decline since 1974 - amidst a strike by Boeing employees and multiple hurricanes. The data bodes ill for US expansion during the second half of the year, especially since capacity utilization - a measure of productivity - fell to a nearly 5-year low of 76.4 percent. Given broad declines in both foreign and domestic demand, it seems almost inevitable that Q3 and Q4 GDP figures will signal that the US economy is in recession.

Euro Hurt By Interest Rate Outlook, But Is It Bound to Recover?

The euro has remained weak due to a variety of factors, including broad US dollar strength due to safe-haven flows as well as negative interest rate expectations. In fact, Credit Suisse overnight index swaps continue to price in over 125bps worth of rate cuts by the European Central Bank over the next 12 months. While the annual rate of Euro-zone CPI growth is still well above the ECB’s 2 percent target, the measure has eased to 3.6 percent in September from a high of 4.0 percent in July, suggesting that inflation pressures in the region are cooling. Furthermore, with economic growth slowing quite a bit in the region and the credit crisis taking a toll on European financial markets, the ECB has turned their attention away from inflation and onto recession risks. However, there are indications that the euro could rebound in the near-term. According to our latest forex positioning report, the FXCM Speculative Sentiment Index (SSI) has recently flipped from net long EUR/USD to net short, and as a contrarian indicator, suggests that the pair could gain. There is no key European data scheduled to be released on Friday, but if we see that volatility dies down a bit and equities gain following the 4 percent rally in US shares on Thursday, the EUR/USD retracement higher could come sooner rather than later.

British Pound: UK Fundamentals Remain Bearish, But Technicals Signal Potential Strength

The British pound finished the day on a slightly stronger note versus the US dollar, but the price action was really only part of a consolidation of GBP/USD between 1.7200 - 1.7350. Like the Euro-zone, prospects for the UK remain weak as the economy is likely headed for recession and as a result, the Bank of England is anticipated to cut rates by as many as 125bps over the next 12 months (according to Credit Suisse overnight index swaps). Nevertheless, with no market-moving data scheduled for release from the UK through the end of the week, technical factors may be the best gauge to use when it comes to GBP/USD. According to Technical Strategist Jamie Saettele’s Elliott Wave count, GBP/USD may be forming a bottom and according to Quantitative Analyst David Rodríguez, our Forex Trading Signals suggest Cable will break higher in the near term.

Carry Trades: Australian, New Zealand Dollars Rocket Higher as Japanese Yen Plunges on Return to Risk

Forex carry trades are inherently volatile but given the surge in the CBOE’s VIX Index to a fresh record high on Thursday, it’s obvious that the instability in the market has reached unprecedented levels. However, only the most risky pairs in the forex market saw substantial price action: the high-yielding Australian and New Zealand dollars and the low-yielding Japanese yen. In fact, the yen plunged nearly 6 percent against Aussie and fell 4.57 percent versus Kiwi. What’s going on? Currently, risk trends remain the dominant theme throughout the financial markets, but we’re also seeing that lower liquidity is leading to wilder swings in almost every asset, especially those that tend to be more “speculative” instruments like emerging market currencies. This environment is unlikely to change anytime soon, making it increasingly important to know how to trade and survive in highly volatile markets.

Terri Belkas is a Currency Strategist at FXCM.