U.S. : Great Challenges Ahead?

Equilibrium is the name of the game. Bulls and bears are battling for the destiny of the U.S. economy without much conviction thus far. The line of least resistance has not been broken and for every action there is a reaction. Good news are emerging, but they are too sporadic to be called turning points. The U.S. dollar is meeting some resistance at current levels, although the short/medium term trends stay bullish.

Great challenges ahead

In August, the Institute for Supply Management's (ISM) manufacturing survey remained near 50 for the second straight month. New orders moved up to 48.3 from 45, while employment slid to 49.7 from 51.9. The pattern is confirmed by the ISM services index which rose slightly to 50.6 from 49.50. In effect, inventories are rising, while domestic and foreign demand is weakening. We are living in a period of great change and the clock of history will shortly stop at a key appointment. On November 4th, a new President will be elected in the United States. Hope is mounting, but great challenges lay in front of him. The golden days, characterized by low costs/strong investments, a peaceful world, are over. Commodities are receding from the highs and the trend could continue for few more weeks/months. However, the long term picture is pointing to the upside. Why? During the bull markets of the last century, agricultural and soft commodities have shown the tendency to top every 30/33 years from highs to highs. The last cycle ended in 1980. So, the next appointment for the bulls might be for 2010/2013, if history repeats its course.

Inflation to soften?

In reality, rates are stable for now, but the Federal Reserve might cut them again, if the economic growth will not tangibly pick up and inflation will soften further. Here and there, the economy seems to respond to the external stimulus. Rates are low and the U.S. government is implementing exceptional decisions, like the nationalization of Fannie Mae and Freddy Mac, to take the growth process back on track in the shortest period of time. In July, factory order rose 1.3% (+0.9 expected) with non-defense capital goods orders excluding aircraft, an indicator for capital spending, moving up 2.5% on the top of June's increase of 1.6%. But the good news are too sporadic and to tiny to be called turning points. Especially, when the job market has been clearly bearish since the beginning of 2008. In August, employers cut again 84,000 positions on the top of July's decline of 60,000 and June's down move of 100,000. August's weakness was broad based with only the government sector adding new jobs. As a result, the unemployment rate grew to 6.1% from the 5.7%, a few points away from February's bottom of 4.8%. Nonetheless, inflationary pressures are still on the upside. Average hourly earnings moved to 3.6% from 3.4%. However, prices might come back slightly in the coming months, since the commodity correction does not appear to have ended yet.

Rates steady in Euro, but for how long?

Despite the clear downturn for the European economy, the European Central Bank (ECB) left rates unchanged at 4.25% last Thursday. The decision was broadly expected, albeit counter trending with growth fading and commodity receding from the highs. During the final speech, Mr. Trichet confirmed that inflation is the main target, but growth forecasts have been cut again to 1.4% from 1.8% in 2008 and to 1.2% from 1.5% in 2009. ECB wants to avoid the secondary effects of inflation with wages increasing along with commodity prices. Will they succeed? ECB appears to be fighting a loosing cause, since inflation is a global issue. Governments could only cope with it in the best possible way, but the trend can not be changed. In fact, it will continue for few more years. As a result, a different approach might take place, once actual commodity decline will get fully into the system. For now, the Producer Price Index (PPI) moved up 9% year on year in July, the largest move of the past eighteen years, compared to June's up move of 8.0%. Core prices are at 4.3%. Way above ECB's benchmark of 2.00%.

Demand is fading

The economic contraction is expanding in all the Euro zone (fifteen nations sharing the Euro). Consequently, after France, Spain and Italy, also the resilient Germany is surrendering to the credit crisis. In July, Germany factory orders fell 1.7% (+0.4% expected) versus June's down move of 6%. It has been the eighth decline since the beginning of the year. German industrial production slid instead 1.8% month on month in July (-0.5% expected) after rising 0.1% in June. Demand is drying up and Europeans are facing an abrupt awakening. The Euro zone economy slumped 0.2% quarter on quarter in the second quarter, matching past estimates, but less than the +0.7% registered in the first quarter. In August, the Purchasing Managers' Index (PMI) for the manufacturing sector was almost unchanged at 47.6 from 47.5, while the PMI services rose to 48.2 from 47.8. Both numbers stay below the important benchmark of 50. Finally, the Euro zone retail sales receded 0.4% (-0.2% expected) month on month in July from June's decline of 0.9%. Sales are now -2.8% year on year and might come back further in the coming months.

USD/CAD meeting strong resistance

EUR/USD short/medium term trend stays on the downside. However, at current levels, the market is finding some support. The first resistance is at 1.4450 and the second is at 1.4550. Nonetheless, a move above 1.4620 is necessary for 1.47, 1.48. A breakout failure would resume the downtrend and target 1.4050, 1.3920.

GBP/USD short term trend is down and price might decline further for the short/medium term. However, between 1.7610 and 1.7380 few lines of support converge and could hold the price for some time. Rebounds find resistance at 1.80, 1.90.

USD/JPY quickly reached the important support line at 106.00. It corresponds the lower channel line/lower Bollinger bands and should hold initially. Rebounds will meet resistance at 108.50, 109.70. A move below 105.40 would eventually target 105.00, 104.50.

USD/CAD has touched the important resistance at 107.00/107.50. This level is at the intersection of the higher Bollinger band and a long term trendline. It needs a strong push to be broken. As a result, the price could again come back to 104.20/102.50, considering the divergence between the current price and the Rsi indicator. A swing above 108.50 will instead break the strong opposition and lift USD/CAD to 109.50, 110.20

Angelo Airaghi
MG Financial Group
http://www.mgforex.com

Angelo Airaghi is a Commodity Trading Advisor, registered with the National Futures Association and the Commodity Futures Trading Commission. He has been an active professional since 1990 working for major international financial companies. In the past 10 years, Angelo Airaghi has been an analyst and commentator for national and international media.

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