Morning Wrap for Tuesday October 19, 2010

Correction or just another bounce? Yesterday question has been answered, a correction has finally started so it is safe to say it is a change in trend. The trigger was an interest rate hike by China's central bank. The People's Bank of China surprised markets by raising its benchmark one-year lending and deposit rate by 25 basis points effective from Oct. 20, the first rate increase since 2007. Last Friday, I wrote in my blog at www.fxdeskcambridge.blogspot.com that one of the reasons that the U.S. withheld their currency report, which would have labeled China a currency manipulator, was that they were negotiating with China to address the currency issue and as part of that deal that they would be raising interest rates this week. The USD surged higher against all currencies after news broke of the rate hike. The biggest loser was the AUD as investors were concerned that the move could dampen growth in China, hitting commodity-linked economies in particular. The Euro extended its losses after Germany's ZEW institute said its economic sentiment index was at -7.2 in October, down from -4.3 in September but better than forecasts of -8.0. Yesterday, the USD began its advance after Treasury Secretary Timothy F. Geithner said that the U.S. will work to preserve confidence in a strong currency and won’t pursue a strategy of devaluation. Geithner's comments ahead of the G-20 meeting would suggest that the U.S. was trying to work out an agreement with emerging economies like China which would ease the currency tensions that have marked the past few weeks. Currency tensions flared up after Fed Chairman Ben Bernanke's Jackson's Hole speech where he suggested that he was going to embark on QE2.0. Now, the USD will rally until the market knows how sizeable the QE will actually be. A host of speakers from the Fed are due to speak on today. More and more policymakers are signing up for QE, so any indications how far the U.S. central bank will go to stimulate the economy could weigh on the USD. In Canada, the CAD sold off to a two-week low after the Bank of Canada left interest rates unchanged and cut its growth forecast. The BOC cut its growth forecast for this year to 3% from 3.5% and next year to 2.3% from 2.9%.