FYI | Oct 15 2007
By Chris Shaw
Since market volatility erupted in late July thanks to the global credit market crisis currency markets have offered a good barometer for the level of risk investors have been willing to take and as ANZ Bank’s Liquidity Monitor notes the trend is again returning to an acceptance of greater risk.
Evidence of this is apparent in both higher equity markets than before the credit crunch as well as stronger global currencies against the US dollar, with the euro at or near all-time highs and the Australian dollar breaking through US90c. At the same time the yen has weakened as currency market players re-enter the carry trade.
While this trend has re-established itself the bank points out credit markets have begun to settle down and the price of risk has eased slightly, as shown by a slight contraction in the spread between 3-month interbank rates and 3-month overnight indexed swap rates. The latter is effectively a measure of market expectations for official interest rates.
There has been other good news as well with US non-farm payrolls data ten days ago coming out better than expected, so easing fears the US economy was headed towards a recession in coming months.
Also helping is a downward move in short-term funding costs in the US, with the interbank rate falling from near 6% at the height of the crisis in early August to around 5.4% now.
While this means the market now sees a less than 50% chance of any further cut in official interest rates by the US Federal Reserve in October it still expects one by the end of the year given there is a 90% chance of such a move priced into expectations.
The Fed is doing little to dissuade the market a rate cut is coming as it has increased its activity in the Open Market in recent days, which has pushed down the Fed funds rate to 4.52%, which is below the official cash rate of 4.75%.
In contrast the bank notes Australian market expectations are for rates to increase further, particularly after the strong unemployment data released last week. As in the US the Reserve Bank of Australia (RBA) has also become a little more active in the market, though this increase in activity has had little impact as interbank rates have shown little change over the past trading week and swap spreads have been relatively steady.
