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GBP-USD tempestuous week of trading

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Thursday, 25 September 2008

Last week Cable moved above the 1.84 mark as the market spurned the dollar following talk of the $700B U.S. bailout. Only two of the “Big 5” investment banks now exist following the failure of Lehman and the sale of Merrill Lynch.

After a tempestuous week of trading, the US dollar ended the week lower as prospects of further intervention by the US government in the financial markets provided a boost to carry trades. With the fed rate sitting at 2.00 percent (kept on hold last Tuesday), the US dollar is now essentially a low-yielding currency like the Japanese Yen.

And how have the markets reacted? By buying all things associated with risk such as oil, stocks, and the Japanese Yen crosses, whilst selling “safe-haven” assets like US and European government bonds, the US dollar, and gold futures. This huge sell-off in Treasuries also led fed fund futures to change their stance and only price in a 28 percent chance of a 25bp cut by the Federal Reserve on October 29, compared to 82 percent on the Thursday before.

On Sunday, Treasury Secretary Henry Paulson said that the nation's still-frozen credit markets are very fragile and Congress must move quickly to pass a $700 billion bailout package for financial firms. ‘The nation's outdated regulatory system for financial markets must be overhauled, but the first job is to get in place the most sweeping rescue package since the Great Depression passed by Congress in coming days.’

This news will be beneficial for carry trades and negative for low-yielding currencies. With Mr. Paulson and Mr. Bernanke both scheduled to speak a number of times during the week, Cable volatility is likely to remain high. In the week coming, US Existing Home Sales and Durable Goods Orders are both expected to fall, while Q2 GDP is not likely to be revised from 3.3%.

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