2nd August, Volatile currency trading week.

A highly volatile start to the trading week.

In the morning, equity and commodity markets continued on from the overnight surge registered in the Far East where Tokyo’s Nikkei index registering over a 2% gain after US President Obama declared that an agreement had been reached on Capitol Hill in Washington to stave off a US debt default. Later, the US House of Representatives voted through a bill to raise the debt ceiling in the first stage of a two-step process designed to avoid the country defaulting on its debt. The bill was passed by 269 votes to 161 in a last minute deal that could prevent the country’s economy from dipping back into recession. Democrats in the House of Representatives were divided in their support for the bill, with 95 voting for and 95 against, while 66 Republicans voted against the bill but a 174 majority voted in favour.

The bill now has to pass through the Democrat-controlled Senate which will vote on it later on today.

The bill proposes an increase in the debt limit by $2.4 trillion from $14.3 trillion. The US should now have enough money to fund the government’s expenditure until 2013, after the next Presidential election in November 2012. The second stage is a programme to cut back on government spending with the US government targeting savings of at least $2.1 trillion over the next 10 years.

The relief rally last until a surprisingly weak reading on US manufacturing in the afternoon prompted a flight to safe haven currencies with the US dollar moving close to an all time low against the yen and a record low against the Swiss franc.

The pound was also lower against the dollar on concern about the UK economic outlook. Figures out Monday showed UK manufacturing activity contracted for the first time in two years in July, prompting concern that the UK recovery will take longer than previously hoped. The PMI had shown its 24th consecutive month of growth but at a much lower rate than in June. A 50 point level marks the threshold between an expansion and a contraction in the sector. Significantly, the new orders sub-index fell to 49.2 points (from 51.6), its lowest reading since June 2009.

However, the IMF has given the thumbs up to the coalition government’s “tight fiscal policy” and attempts to strengthen the financial sector, while pointing out that banking remains vulnerable.

In a report on its consultation with the UK government, the IMF says that it “welcomed progress” made in the UK economy, including lowering the fiscal deficit, increasing bank capital, and expanding employment.

The IMF thinks that growth in the UK “is expected to gradually accelerate from around 1.5% in 2011 to 2.5% in the medium term.” Its assessment of the UK economy comes on the same day that the CBI has lowered its forecast for economic growth in the current year to 1.3% from a previous estimate of 1.7%, but kept its estimate for growth of 2.2% in 2012 unchanged.

The euro initially gained on the back of the relief rally in the morning but then fell in the afternoon as the markets turned bearish on the downturn in the UK and US manufacturing sectors.

Commentary by Tony Redondo

“Any opinions expressed in this document are those of TorFX analysts. Any analysis and/or forecasts provided are aimed at helping clients understand market conditions and developing trends. Clients are wholly responsible for their own trading decisions.”