US Dollar, Japanese Yen Fall as Treasury’s Plan Spurs Investor Optimism, 6.84% Rally in DJIA

The US dollar and Japanese yen were the weakest of the majors as the “safe havens” didn’t stand to benefit from a rebound in risk appetite. The improvement in investor sentiment that sent high-yielding currencies surging and the DJIA up 6.84 percent was spurred Treasury Secretary Tim Geithner’s announcement of the government’s plan to remove toxic assets from the books US financial institutions. The plan includes investor financing for up to $1 trillion in purchases of illiquid real-estate assets, with a portion of the funding coming from remaining TARP funds and part relying on funding from the Federal Reserve and debt guarantees by the FDIC. The ultimate goal of the plan is to restore faith in the health of US banks so that they will not only lend to eachother, but also lend to businesses and consumers, and subsequently bring down borrowing costs. Since the plan depends on private investors stepping up to the plate, it will likely take time for any sort of results to be reflected in the credit markets, but based on the rally in US equities, especially financial shares, stock traders seem to have given this plan their seal of approval.

Meanwhile, US economic data was surprisingly strong, as the National Association of Realtors (NAR) reported that existing home sales unexpectedly rose 5.1 percent in February, bringing the annual rate of sales up to 4.72 million from 4.49 million. A breakdown of the report shows that total inventories went unchanged at 9.7 months, with single family supplies down to 9.1 months from 9.2 months and condo/co-op supplies up to 14.7 months from 13.4 months. Interestingly enough, median home prices rose slightly to $165,400 from $164,800, but in the grand scheme of things, values are still down a whopping 15.5 percent from a year earlier. Regardless, it seems that the combination of more affordable homes along with lower borrowing costs and tax credits from the government’s fiscal stimulus plan have helped to plant the seeds of recovery in the sector. That said, climbing unemployment will impede all of those other factories and as a result, the US is unlikely to experience any sort of true rebound in home buying until the recession comes to an end.

Euro, British Pound Gain Versus Safe-Havens, Mixed Against Other Majors

The euro and British pound both ended Monday up against the ultra-weak US dollar and Japanese yen, but their performances were mixed against “riskier” currencies. Indeed, the commodity dollars were easily the biggest winners in light of the surge in risk appetite, as the Aussie, Kiwi, and Loonie all gained versus the euro and British pound. However, between the euro and British pound, the latter was the stronger of the two. When looking to historical data, the British pound experienced significantly more severe declines against the safe-haven currencies between July 2008 and early 2009 than the euro did, and as a result, the UK’s national currency will be prone to greater gains during times when carry trades are rallying.

Looking ahead to Tuesday, the UK’s consumer price index (CPI) reading for the month of February is expected to rise 0.3 percent, the first increase in six months. However, the annual rate of growth, which is more closely watched by the Bank of England, is forecasted to fall back into the central bank’s inflation target range of 1 percent - 3 percent for the first time since March 2008 to 2.6 percent. If CPI falls more than forecasted, the British pound could pull back sharply as the markets will anticipate that the BOE will leave rates unchanged at an ultra-low 0.50 percent through the entire year.

Australian Dollar, New Zealand Dollar the Currencies of Choice Amid Improved Risk Appetite

The high-yielding Australian dollar and New Zealand dollar were the strongest of the majors on Monday, as the commodity currencies gained roughly 3.5 percent against the Japanese yen and more than 2 percent versus the US dollar. There were few fundamental factors coming in to play here, and instead, a broad surge in risk appetite was responsible for the rally in the currencies. Indeed, the Australian dollar and New Zealand dollar were among the hardest hit at the height of the financial crisis, and now that sentiment appears to be improving, these currencies are prone to the biggest rebounds. That said, these are still the “riskiest” of the majors, so any reversals amidst risk aversion may be severe.

Terri Belkas is a Currency Strategist at FXCM.