EUR/USD Weekly Outlook 9/14 thru 9/19 2008

Once again we have a volatile and chaotic week set before us… this week marks “round ten” between the heavyweights EUR and USD. The first nine rounds have belonged to the USD and the new champ is poised to continue commanding the fight.

That being said, there is risk on the USD and this risk goes by the acronym FOMC. But before we get into that, there are a few issues we need to cover and be mindful of, especially at the start of the week.

There are going to be three big issues to deal with between now and Tuesday’s FOMC… those issues are how the market intends on responding to the Lehman debacle, fallout from Hurricane Ike (economic impact), and of course issues within the commodities market.

Lehman:

As I commented last week, I still believe a multinational response will be needed to rescue Lehman in addition to the Treasury playing a role, even if it’s behind-the-scenes and kept secret from those not in the know and diminutive players like you and I. I don’t really care what happens to Lehman, their stockholders, or their reputation. My only concern is how the deal will affect the EUR/USD. Based on current trends I have to believe almost any deal is going to be USD favorable.

As of the writing of this commentary no official deal has been announced but I expect to hear something around Tokyo’s opening or before Wall St. opens on Monday. Paulson likes doing Sunday evening announcements to help his friends in Asia, so we may hear something soon.

The reason I believe the market will take the news favorably and USD+ is because this deal will just give the markets another false sense of hope and euphoria thinking that even though the Treasury can’t do a direct bail-out, they can use their unbridled powers to create a magical bail-out solution. They should start calling Hank Paulson “Walt Disney” because Paulson’s got a great skill for bringing fantasy to reality and influencing people to believe even their wildest dreams can come true if you just wish hard enough.

My hope is that the markets do the correct thing and punish the USD which should be the end result of this fiasco. Whether or not the markets behave the proper way is something no one can predict.

Ike:

Ike was catastrophic but at this point the damage and economic impact is still being estimated. There are no official numbers but I expect this to be quite a costly hurricane. The only thing we need to be concerned with is how the storm affected crude and gasoline production.

I’ve been getting conflicting reports on how Ike damaged the oil rigs and refineries. The U.S. Minerals Management Service said there were two confirmed reports of drilling rigs loose in the central Gulf of Mexico. Some refineries are reporting they’ll be shut down for nine days. Shell said they are already sending staff back to their crude operations.

The power outages could be an issue for the oil producers and refineries. Here in Tennessee I’ve already seen gas jump $1 or more per gallon and we have gas stations that have either run out of gas or are rationing just like in the Richard Nixon days before I was even born. I’m not sure how long this price gouging will go on for but it’s caused an uproar with consumers here in my neck of the woods.

Crude and Gold:

Last Sunday I promised crude would hit $100 during the week, which it did on Friday. Crude could be extremely volatile this week as we find out the state of the oil industry in Texas and as crude traders respond to this week’s USD and crude fundamentals.

Now if the USD fundamentals and FOMC continue to support the dollar this will only serve to put further downside pressure on crude and gold and this is certainly a valid risk for this week. As long as these conditions persist I see no reason why we can’t test below $95. Of course, the Fed could change the course of things very easily on Tuesday.

FOMC:

Although we have a week packed with key growth, consumer, production, employment, and inflation data, nothing is bigger than the FOMC this week. The past two weeks this idea of the Fed cutting rates again has been gaining steam.

The advocates and proponents of another Fed cut say Bernanke will cut at least another 25bps sometime between Tuesday and the end of the year. Other more wishfully-thinking rate cut proponents are saying the Fed will cut 50bps. And then there’s even a few saying the Fed will lop off another 100bps… we’ll put those folks in the delusional category for now.

I’m unable to make a rate cut call for Tuesday. The last two FOMC rate meeting saw two dissenting votes and although crude prices have come down and inflation fears have dialed back I do not see those two dissenters, who are known hawks, reversing their vote and opting for a rate cut. Unless all FOMC members are being forced to vote for a cut, I do not see Bernanke getting the support he needs to make it happen.

I expect to see rates held at 2.00% and I expect to see a relatively hawkish-toned FOMC statement. Besides the fact that the Fed manipulates data, they are extremely lagging with their monetary policy decisions. I’m not sure the massive deflation we’ve seen the past few weeks is going to be enough to cause the Fed to declare an end to their “war on inflation”.

The Fed should be dovish on the employment sector and that could certainly put some pressure on the USD. If the Fed talks up the retail or GDP sectors I’m not sure the market will buy it. Last week we saw evidence that the stimulus checks have run their course through the economy and will no longer contribute to over-inflating the retail sales and GDP data.

Now if the FOMC does pull a surprise cut, depending on the size of the cut, you can expect the market to move against the dollar. But, we’ll further discuss the FOMC and probabilities in Monday’s update.

EUR/USD:

At this point it is looking as if the euro will open higher on your broker’s platform than where it closed on Friday. Don’t forget the Forex market never closes and trading goes on between banks at all hours of the weekend.

Although our brokers closed us at 1.4218 on Friday, this weekend’s trading has moved the euro up at this point. If you’re one of the so-called “gap traders” exercise some caution and be smart with your trades because as you know we have many issues going on right now and we could see some heavy volatility and price swings between now and London’s open.

On Friday I warned not to add any new euro shorts and not to allow any euro shorts to fall into drawdown. I have to stick with this call at least until London opens. If the market does decide to slide down, so be it. But as for me and my trade plan, I cannot add new euro shorts and I have to manage my open euro shorts to prevent them from falling into drawdown.

Last Thursday we indicated some bullish signs had returned to the euro, mostly within the real-time price action. I will be continuing to look for these signs as we open up and trade through London. 1.4188 remains a very important key level. If we go back down to sustain a break of 1.4188, it leaves the door open to test as low as the 1.3818 level.

A sustained break above 1.4188 opens the door to test above the 1.4300 level. Be advised there’s quite a bit of resistance above 1.4350, so we’ll be watching the real-time price action and moves in commodities to keep a clear view on where we go.

These looming events we spoke about earlier will keep trading complicated. I think once we get passed the Lehman issue, we can then better focus on the FOMC for Tuesday and we can get a better view on where the market wants to take the EUR/USD.

As things further develop tonight I will update as things change and evolve. You know the drill – use strict risk and money management. Be extremely careful when our brokers open our platforms to the market. There’s been a tremendously amount of volatility and price swings already and it could easily persist once us retail players enter the game.

There’s blood in the water, the sharks are circling, and you can count on some serious attacks tonight and throughout this week… be smart with your trades… don’t take those knee-jerk trades and stay away from the revenge trading. Dumb money doesn’t make money.