“To prophesy is extremely difficult – especially with regard to the future”. Chinese proverb

Last week threw up plenty of surprises, and if there is anything we can be sure of, it won’t be for the last time. Today marks the start of the Chinese New Year, and the beginning of the Year of the Ox. The Ox is a sign of prosperity for the Chinese, not a word that analysts are using much when forecasting for the next financial year. Friday’s UK GDP figures confirmed how ominous things are for the UK economy which contracted by 1.5% in the last quarter of 2008, putting the UK in its first recession since 1991. Further UK contraction until well into 2009 looks set to continue, and worldwide growth figures have been revised downward. November growth figures from the IMF projected world output would grow by 2.2% in 2009, however IMF managing director Dominique Strauss-Kahn revealed last week that the IMF will sharply cut growth forecasts this month and the world will not return to strong growth for “two or three years”. Growth figures throughout the week from Asia were far from heartening, as it was revealed that Korea’s economy was shrinking at an annualised rate of over 20%, and China reporting the slowest rate of growth in seven years.

The big home news of the week was another round of bank bailouts from the UK government, pushing the pound down over the week to 23 year lows against the dollar, record lows against the Yen and uncomfortable levels against the Euro. The main measures announced by the government were credit guarantees on Bank assets to effectively provide insurance. The intention is to lower the levels of capital that banks must put aside, as government backed assets would have a near zero risk of default . This may free capital up for banks to begin to lend again. There was also a provision included for monetary easing to be included in the future, and for the Bank to purchase private sector assets.

Investors were not convinced, and there was speculation that further banking nationalisations would need to occur. Sentiment was not helped by RBS’s increase in government ownership and its earnings announcement revealing the largest annual loss in UK corporate history. The UK’s fiscal position was in the limelight following this terrible result which saw a selloff among equities, particularly bank stocks. Banking stocks are now on average 80% lower than this time last year.

The Euro was also under pressure throughout the week as the European Commission lowered growth rates for the region, while Spanish and Portuguese debt was downgraded by credit rating agencies.

As risk aversion was heavily evident throughout the week, as expected it was the dollar and Yen that benefited. The Yen remains a safe haven for investors despite increasingly sour economic data from the world’s second largest economy. Yen strength is not welcomed for the heavily export reliant country, as currency strength damages exporters repatriated earnings and will add to existing deflationary pressures. Scoichi Nakagawa, the Japanese finance minister, admitted they were watching the currencies movements closely and may yet intervene for the first time in five years.

Data from the UK is fairly light this week, we will once again be looking to equity indices to provide direction for the pound. If financial stocks regain and hold some composure, confidence will ebb back into the markets, a positive move for sterling. The US rate decision midweek will largely be a non event in light of the fact rates are already at a nominal zero. Late in the week advance GDP figures are due from the US, as is a PCE figure.

New Zealand has a rate decision on Thursday, with consensus being a cut of 100bps from the current level of 5%. Recent economic data from New Zealand has continued to deteriorate, with business confidence levels at record lows and inflation data exceeding expectations on the downside

Trade of the week

This week’s trade of the week is a Reduced Premium Risk Reversal on GBP/EUR. This Premium Paid option gave the client a hedge rate of 1.06 and a best case rate of 1.25 for an upfront premium of 2% of the total contract amount. If, on expiry, GBP/EUR is below parity, for every cent that the rate is below GBP/EUR parity the hedge rate also falls by a cent. If, on expiry, GBP/EUR is below 1.06, and higher than GBP/EUR parity, the client will receive 1.06. If the rate is above 1.06 and below 1.25 the client will buy at spot. If the spot rate is at or above 1.25, the client has an obligation to buy at this level. For full details of this structure please contact one of our options traders on 0207 801 9050.

Enjoy the Week

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Please feel free to contact me (rick.roache@worldfirst.com) if you have any questions or thoughts regarding these updates or if you are interested in a particular event in the calendar. If you would like to discuss your foreign exchange requirements, please contact our:

Corporate Foreign Exchange Team on 020 7801 9050 or our Private Client Currency Exchange Team on 020 7801 9080.

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Disclaimer: The above comments are only our views and should not be construed as advice. You should act using your own information and judgement. Although information has been obtained from and is based upon multiple sources the author believes to be reliable, we do not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute the author’s own judgement as of the date of the briefing and are subject to change without notice.

Any rates given are “interbank” i.e. for amounts of £5million and thus are not indicative of rates offered by World First for smaller amounts. E&OE. Definitions of jargon/market terms can be found in our Glossary of Foreign Exchange Terms.

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Investing in any of the hedging strategies contained in this material involves certain risks, for example that the exchange rate at expiry of the contract is less favourable than if you had entered into a forward contract.  Please ensure that you fully understand these risks before investing.  If you are in any doubt as to the nature of these risks, please speak with your financial adviser or an adviser at World First Markets Limited.

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