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ShareSentiment in the financial markets remained cautious last week. Market participants sought safety in spite of economic data pointing towards improved manufacturing and service sector activity levels across major economies, especially the US, eurozone and China.
Global investors were concerned about the weakness of US consumer demand, given persistent uncertainty about the labour market conditions there. The August non-farm payrolls report did little to provide any clarity.
The report showed that employers in the US shed 216,000 jobs last month, less than expected and fewer than in July, although the unemployment rate climbed to a 26-year high of 9.7%. Low risk appetite was reflected in the weakness in the global equities market and as a result market participants preferred safe-haven currencies.
Price action in the currency market was dominated by the yen, which hit its highest level in nearly two months against the US dollar. Weak performance from global stocks dented risk appetite and heightened the demand for the Japanese currency. The yen was also given a boost after the landslide general election victory of Japan's Democratic Party (DPJ).
The electoral success of the DPJ raised hopes that it could take steps to boost consumer spending in an effort to lift the economy out of its deflationary spiral. Moreover, DPJ leaders had also indicated that they could look to diversify their foreign exchange reserves which are currently dominated by US dollar-denominated assets. Over the week, the yen rose 0.7% against the dollar and 0.8% against the euro.
The yen also performed strongly against commodity-linked currencies as poor performance of equities raised fears over global growth prospects. The Australian dollar lost 0.2% over the week, even as figures showed Australian growth far outstripped forecasts in the second quarter.The New Zealand dollar slid 0.3% on the week, while the Canadian dollar fell 0.4%.
The pound appreciated over the week and finished the week stronger by 0.8% against the US dollar. An above-forecast survey of the UK service sector boosted hopes that the UK economy would return to growth in the third quarter.
The pound's performance also reflected some profit-taking after the poor run that made it the worst performing currency in August. It also rose 0.8% against the euro, which was little moved by the European Central Bank's widely expected decision to keep interest rates on hold on Thursday.
Meanwhile, the US dollar found some support from market participants looking for safety. The greenback finished the week almost flat against the euro as well as the Swiss franc.
The Swedish krona lost 1.4% against the euro over the week and fell 1.9% against the greenback, after the Swedish central bank said interest rates were likely to remain at the level of 0.25% until the third quarter of next year.
In the local inter-bank currency market, the rupee finished the week lower by 0.5% against the US dollar. The Indian unit remained under pressure throughout the week, as the local stock market lost over 1% in value. Month-end demand from importers and strength of the greenback overseas also pushed the rupee lower. The currency recovered some ground on Friday as the stock market recovered and FIIs brought in dollars. The rupee-dollar pair traded in the range of 48.67-49.20 over the week.
Financial markets seem to have entered a period of consolidation after a liquidity induced rally in asset prices since March. The underlying global economic environment is only gradually improving. It now appears that market participants are looking for a fresh perspective on global economic conditions to support any further appreciation in asset prices, especially equities.
There are growing apprehensions about the pace of recovery of the global economy once the extraordinary fiscal and monetary stimulus provided to counter recession is unwound in the face of rising inflationary pressures.
The comments coming from the finance minister and other policy officials at the G-20 meeting in London on Saturday have been largely supportive of keeping stimulus in place until a recovery is secured.
This could send the market a somewhat bearish signal as it would reinforce the notion that the recovery will be gradual. Policymakers have also been preparing the markets for an exit strategy, as growth takes hold across major global economies. In this backdrop, global investors and other market players could continue to remain cautious this week too.
Interest rate meetings of key global central banks this week could also affect the risk sentiment. The Bank of England is scheduled to announce rates on Thursday; but it is the commentary and outlook for growth as well as the size of the asset purchasing program that will attract market attention. Optimism on the recovery of the UK economy could trigger some optimism in the market too, while any increase in the size of asset purchases could do the opposite. On balance however, caution could remain the overriding market sentiment.
In the local market, rupee could remain under pressure against the US dollar. The stock market conditions could remain unfavourable for the Indian unit, given the mood of introspection prevailing among global investors. Otherwise some downward correction in the oil prices last week could be supportive for the rupee. Overall the rupee-dollar pair could trade in the range of 48.60 - 49.20 this week.
The author is senior economist, ABN Amro Bank. Views expressed herein are personal.
E-mail: gaurav.kapur@in.abnamro.com
