Markets Exercise Caution

The session on Friday proved fruitful for the Euro, thanks to the recent measures unveiled by the EU to avoid the immediate threat to the region. Additionally, US inflation and Chinese manufacturing data improved sentiment for risk appetite. However, the picture is less rosy in the UK following Friday’s cut to the rating outlook issued by S&P and weak housing data released earlier today. On macro front, this will be a busy week for Sterling with lots of important announcements to watch out for. Meanwhile, with little of market interest today that could provide some definite direction to risk sentiment, the US “fiscal cliff” negotiations look set to dominate near-term market dynamics.

Pound Sterling – UK Markets

S&P’s decision to lower the outlook on the UK’s prized “AAA” credit rating to “Negative”, weighed on the performance of the Pound against the Euro in Friday’s trading session. Though there is no imminent risk to the UK’s credit rating, any further deterioration in the nation’s economic and fiscal performance would not deter these agencies to revisit the nation’s rating. The worries about the UK economy, as highlighted by all the three major rating agencies, proved to be legitimate, as data released earlier today showed a further decline in Rightmove house prices for December. This is in line with the housing picture depicted by RICS in the previous week. With the recent domestic PMIs failing to instill confidence among traders, all eyes and ears would be on the BoE’s minutes of the last monetary policy due later this week for further insights on issues that played on the mind of policymakers. With a light UK economic calendar today, Sterling is likely to take cues from the movement in the US Dollar and the Euro. However, investors have their plate full during this week, with consumer price inflation, retail sales and the final GDP reading hogging the spotlight.

US Dollar – US Markets

Risk appetite in Friday’s trading session gained momentum after the US annual consumer price inflation slipped below the 2% mark for November, spurring speculation that the monetary stimulus might continue longer, given the Fed’s recent explicit inflation target of 2.5% for continuing its monetary easing stance. Additionally, relieved worries in the Eurozone, upbeat manufacturing data in China and recent stimulus measures by the US Fed, all proved bearish for the safe haven currency. Meanwhile, data showed that industrial activity in the world’s largest economy was gaining traction. Meanwhile, the prime focus of contention for the US Dollar as we move to the end of 2012 undoubtedly lies on the outcome of the US budget talks. With negotiations expected to go down to the wire, we can safely assume some volatility in the greenback pertaining to the news flow from the US “fiscal cliff”. It would be in the best interest of the markets if the US policymakers break their logjam in time, which could bring further cheer to investors. With the US Dollar trading flat against the majors this morning, traders would keep an eye on the New York Fed manufacturing data due later today which is expected to reveal an improvement for December.

Euro – European Markets

The Euro found itself in a favourable position against the majors on Friday, partly due to the recent initiatives taken by the European leaders to tackle the debt crisis and hopes of continuing monetary stimulus in the US. However, it remains to be seen how long the leaders can “kick the can down the road”. Meanwhile, manufacturing data in the Eurozone continued to reaffirm the view that the underlying strength of the region’s economy remains weak. However, services sector data across Europe offered some positive surprise to market participants and limited losses in the Euro. Due to a lack of triggers in today’s trading session, the Euro is trading in a tight range against the majors. Eurozone trade balance data due later today could provide some indication on the impact of the region’s deteriorating economic health on the region’s trade. With only the region’s trade balance data on the economic deck today, market participants are also likely to focus on the news flow emanating from the US “fiscal cliff” negotiations.

Other Currencies – Highlights

The Yen is trading at multi month low against the US Dollar this morning following a landslide victory for Japan's conservative Liberal Democratic Party, which is committed to aggressive monetary easing. However, the leader of LDP, Shinzo Abe, has his task cut given the large number of issues facing the nation’s economy. The leader seemed to immediately jump into the foray of advocating loose monetary policy, as he opined that Japan needs a sizable supplementary budget to beat deflation. This has shifted focus on to the Bank of Japan’s monetary policy slated later this week, wherein a further increase in asset buying and lending programme cannot be ruled out. Apart from the monetary policy decision, traders are also likely to keep an eye on Japan’s trade balance data due later this week. Additionally, market participants will be closely watching for progress in the US budget stalemate for further direction.