US Dollar Gains as Investor Sentiment Remains Jittery - Wholesale Inventories Likely to Fall on Tuesday

The US dollar benefited from jittery market sentiment on Monday, and with the DXY index holding above key support at 88.00, the outlook for the currency remains bullish. There were no key indicators released, but on Tuesday morning data is projected to show that wholesale inventories contracted for the fifth straight month in January at a rate of 1.0 percent as businesses try to prevent a buildup in excess supply in light of the dismal demand situation. Indeed, wholesale sales have been consistently falling negative since July 2008, which has led the inventory/sales ratio to climb from 1.06 in June 2008 to 1.27 in December 2008. While the release of wholesale inventories doesn't tend to be very market moving for the forex markets, a continuation of the rising trend in inventory/sales will only signal further economic deterioration. Meanwhile, Federal Reserve Chairman Ben Bernanke will be speaking at 8:30 ET on bank regulation to the Council on Foreign Relations, which will also include a Q&A session. Based on the audience, there is potential for Bernanke to discuss the economic slowdown and financial crisis on a global scale, which could have a big impact on risk trends so traders should watch for biased commentary throughout the morning.

British Pound Remains Under Pressure Amidst Banking Concerns, Ahead of Expected Declines in Industrial Output

The British pound was easily the weakest of the majors, losing over 2 percent against the US dollar and 1.6 percent versus the Japanese yen, as concerns over the health of the UK’s financial sector remain high. Indeed, news over the weekend that Lloyds Banking Group will hand control to the UK government in return for state guarantees covering 260 billion pounds worth of risky assets, bringing the government’s equity stake to as much as 75 percent. This comes following Lloyds’ acquisition of HBOS Plc in October, which the government engineered in an effort to prevent HBOS’s collapse. Overall, this raises concerns that other banks may be in danger as well and will also require asset insurance deals, leaving the British pound at risk. Looking ahead to the next 24 hours, output in the UK industrial sector is forecasted to have either stagnated or contracted for the fifteenth straight month during January, which could push the annual rate down to a nearly 28 year low of -7.9 percent. The bulk of the decline should be the result of weak manufacturing growth, as the global economic slowdown weighs on export demand. A decline in line with expectations would add to evidence that the UK trade deficit is widening rapidly, and will also highlight the extent of the recession plaguing the region. As a result, there is potential for brief pullbacks in the British pound early on Tuesday morning.

Japanese Yen Slips Against Euro, US Dollar as Japanese Current Account Posts First Deficit in 13 Years

The Japanese yen finished Monday mixed across the majors, gaining against the British pound, New Zealand dollar, Australian dollar and Canadian dollar while tumbling versus the euro, Swiss franc, and US dollar. Disappointing Japanese economic data keeps piling up as the nation saw its first current account deficit in 13 years. Indeed, the current account plunged to 172.8 billion yen in January due primarily to a 46.3 percent drop in exports from a year earlier, highlighting the plight of Japanese manufacturers who have had to grapple with a global economic slowdown and the appreciation of the Japanese yen. While the link between the Japanese yen crosses and risky assets like the DJIA has slipped, it shouldn’t be written off entirely as a strong bout of risk aversion could be enough to push the low-yielding currency higher.

Euro Down Against US Dollar, But Strong Versus British Pound on Divergent Rate Outlooks

As we mentioned on Friday, both the euro and the British pound faced 50 basis point rate cuts last Thursday, but with the interest rate outlook in favor of higher yields in the Euro-zone than in the UK, EUR/GBP may continue to see further gains. While both the European Central Bank and Bank of England want to avoid cutting rates to zero, there is big difference in their stance on quantitative easing. The UK has already said that they would pursue it with purchases of medium and long-maturity conventional gilts in the secondary market worth 75 billion pounds. However, while ECB President Jean-Claude Trichet said that the central bank was studying "additional non-standard measures," the ECB will have a much more difficult time embarking on quantitative easing, or as Trichet prefers to call it, “credit easing.” This is because there is no central Treasury for the Euro-zone, and thus, it will take substantial coordination to achieve the same actions. In the long-term, downside risks linger for the euro and British pound against the greenback, but when it comes to the euro against the British pound, the former may prove to hold up a bit better.

Canadian Dollar Hits 5+ Year Low Versus US Dollar as Canadian Housing Starts Plunge 12%

The Canadian dollar slumped against the greenback on Monday, hitting the lowest level since September 2004, as Canadian housing starts tumbled more than expected a rate of 12 percent in February, leading the annual rate to hit a more than eight-year low of 134,600 units. The declines were contained to homes in urban areas, which fell to a more than 10-year low of 107,800 from 126,700, while housing starts in rural areas held steady at 26,800. Overall, growth in Canada has taken a steep dive with the drop in oil prices from nearly $150/bbl in July as the export-dependent economy thrived off of the rally in commodities. When you also consider that it isn’t just prices that are falling, but also demand from the US – Canada’s biggest trade partner – it is easy to see why job losses have spiked, why consumption has waned in recent months, and why the Bank of Canada cut rates to a record low last week.

Terri Belkas is a Currency Strategist at FXCM.