This Week's Market Outlook

Highlights

* It's official: The US economy is 'less crappy' than the rest of the G7
* A breakthrough for solar/fuel cell technology
* Central bank decisions next week: Fed, RBA, ECB & BOE
* Key data and events to watch next week

It's official: The US economy is 'less crappy' than the rest of the G7

To use a technical economic term, the US economic outlook is decidedly 'less crappy' than the rest of the other G7 economies. In last week's report, Jake Oubina provided readers with a concise recap of recent data that pointed to stabilization in the US contrasted with a rapid deterioration in economic data elsewhere, but especially in the UK and Western Europe. This past week saw that pattern continue for the US and the data from across the Atlantic actually deteriorated even more substantially. I won't go into all the data points here, but I will note US 2Q GDP came in just shy of 2% annualized (and is likely to be revised slightly higher based on positive revisions to other 2Q data) and that the July NFP job loss was less than expected. I'm not suggesting the US has turned the corner toward strength, but it's clearly stabilizing and fears of recession are, or should be, continuing to fade. Compare that to the dismal data stream coming out of Europe and the UK, which led the largest US investment house to change its UK forecast today to a recession in 2H 2008, and I continue to look for the USD to perform better against the other major currencies. Perhaps the easiest way to think about it is not as a 'buy the USD story', but as a 'sell EUR, GBP, CHF, AUD and NZD' story.

Technically speaking, the USD shows greater indications of having formed a bottom and the EUR, GBP, and AUD having formed a top. Focusing mostly on EUR/USD, recall the double top above at 1.6020/40, a significant longer-term topping formation. The pattern will be confirmed on a break below 'neckline' support from lows at 1.5280/5300 and target a measured move objective of approximately 800 pips (the distance between the neckline and the tops). In Ichimoku terms, EUR/USD is currently trading in its cloud (bottom at 1.5525 and top at 1.5652), with the Tenkan line having crossed below the Kijun line, generating a sell signal; a daily close below the cloud will provide further evidence of a shift lower. (AUD/USD has dropped below its cloud, suggesting a trend reversal there.) Using traditional trendline analysis, a key daily trend line at 1.5520/30 dating to last Aug. is continuing to provide support, but a daily close below will be another clue that the EUR/USD uptrend is over. Other technical indications: in the daily ADX/DMI study, the DI- line has crossed above the DI+ line, generating a sell signal, and daily closes below the 55 and 100-day moving averages at 1.5650/55 all point to a more significant reversal lower for EUR/USD. A daily close below the 1.5500 should be the trigger to further weakness.

Fundamentally speaking, evidence of fresh deterioration in Europe and the UK suggests a wider global slowdown, and one that is quickly spreading to Asia, the last bastion of growth. Slower global growth should also reduce demand for global commodities, reducing another USD burden. Indeed, the month of July saw a major set-back for the CRB commodity index, with monthly candlesticks showing a bearish engulfing line, suggesting a trend reversal. Oil prices have similarly plunged and WTI Ichimoku analysis is nearly identical to that of EUR/USD (currently in the cloud, and Tenkan downside cross of the Kijun line). WTI looks to have gone into a bear flag consolidation period after the collapse from the double top at 146/147. A break below the $122/bbl level suggests a minimum measured move objective of at least $15/bbl and potentially as much as $27/bbl. Energy demand destruction is continuing and spreading wider afield, and the only question to me is how quickly will markets appreciate this? A sharp drop in oil prices would be another boon to the US outlook, further solidifying the notion that the US will avoid a recession. (See the next section for an interesting tidbit that might come into play in the weeks ahead and spell absolute doom for $100+ oil.)
A breakthrough for solar/fuel cell technology

In a little noticed development, a major breakthrough appears to have been made that will enable significantly more rapid conversion to solar energy as the primary global energy source. The major stumbling block for solar power has always been the lack of a simple and cheap way of storing the energy for when the sun is not shining. In the July 31 issue of the journal 'Science', two MIT (Massachusetts Institute of Technology) researchers have developed a simple catalytic process that separates hydrogen and oxygen out of water, for later use in powering fuel cells, a proven form of energy storage. The key is that the process of separating the hydrogen and oxygen uses little energy, occurs at room temperature and uses cheap and abundant chemicals as the catalysts. In other words, it's simple and cheap. Significantly, they have patented their technology, but made it 'open source' to allow other researchers around the world to build on the discovery.

This story has not been picked up in the mainstream media yet, but I think there is potential for this to become a major story in the weeks and months ahead. The obvious implications for oil are massively negative, but in the short-run oil will still be needed. However, the longer-term implications are truly epochal. Might we be on the brink of an energy solution that is cheap, efficient and non-polluting? Stay tuned on this one.
Central bank decisions next week: Fed, RBA, ECB & BOE

Most of the major central banks will be busy deciding on interest rates next week and the overwhelming consensus is that rates will remain broadly on hold. Below we discuss what to expect from the RBA, BOE, ECB, and Fed next week.

Reserve Bank of Australia

The Reserve Bank of Australia will report their interest rate decision on Tuesday next week at 430GMT. The consensus is unanimous in predicting no change to the current official rate of 7.25%. We agree with the forecast for no change but would also note that given the rapid deterioration in Australian economic data of late, the bank's next move looks likely to be a cut. Both businesses and consumers seem to be under pressure. Despite employment indicators improving -- with the unemployment rate falling to 4.2% -- consumer confidence and retail sales deteriorated since the last RBA meeting. Meanwhile, business confidence and lending activity fell off in the last month as well. The worsening economic situation is being offset by higher inflation reads, however. Inflation expectations remained elevated at an all-time high 5.9% last month, while CPI registered an annual increase of 4.5% -- a cycle high. Thus the bank is likely reluctant to begin cutting rates right now with inflationary pressures still looming. The clear event risk here is that the RBA indeed cuts rates at this meeting, something which seemingly nobody expects. This would send AUD sharply lower, adding to the recent losses.

Bank of England

The Bank of England is also set to decide on rates in the week ahead (Thursday at 1100GMT), and consensus here is also unanimous that the bank will leave rates on hold at 5.0%. If expectations come to fruition, the market will have little to go on as the BOE does not release a press statement if there is no change to rates. That said, it has become clear that the UK economy continues to fall apart at the seams. Housing market weakness continues to permeate through the economy and business and consumer sentiment have deteriorated further in the last few weeks. Many market participants have even begun to predict an imminent recession in the next twelve months, to boot. Looking ahead we expect the bank will be unable to keep rates at the current level and will be forced to cut sooner rather than later, as the realities of a deteriorating economy begin to bite. Thus our strategy remains to continue selling GBP on rallies.

European Central Bank

The ECB is scheduled to meet on Thursday as well and will release their rate decision at 1145GMT, followed by the usual statement from ECB President Trichet at 1230GMT. The market expects no change to the 4.25% rate and the bank is unlikely to disappoint on this front. The devil will be in the details and as such the statement will be key. We expect bank members to downgrade the Euro-zone economic outlook as the data of late have continued to show broad deterioration. The previous characterization was that "information available remains broadly in line with our expectation of moderate ongoing growth". The ECB will likely "mark-to-market" the economic assessment and suggest that risks for a more severe downturn have intensified. On inflation we expect more of the same hawkish talk, as the latest monthly CPI is estimated to have increased further to a 4.1% annual rate. The bottom line remains, however, that the ECB will be hard-pressed to raise rates further. The latest leg-down in the Euro-zone economies are likely to bring about more intense political pressure for the ECB to remain on hold, despite the risk of higher inflation. A firm signal that the bank is firmly on hold for the foreseeable future should weigh heavily on the euro.

Federal Reserve Bank

Last but certainly not least, the Fed is due to make its rate decision next week as well at 1815GMT on Tuesday. Economists are largely forecasting rates to remain on hold at 2.0%, with only a few calling for a 25 bps increase. The futures market meanwhile is pricing in measly 8% odds of a rate hike, and thus the "bets" are heavily skewed to a Fed on hold as well. We would concur that the rates will remain unchanged at 2.0% next week and for the foreseeable future. The Fed remains handcuffed by weak economic activity from an ongoing credit crunch and uncomfortably high inflation. The accompanying press statement will probably see little change from the June 25 communique. The key will be whether they leave in the phrase that "the substantial easing of monetary policy to date, combined with ongoing measures to foster market liquidity, should help to promote moderate growth over time." This would suggest that the Fed views the current level of rates as appropriate and suggest to the market they plan to remain on hold.
Key data and events to watch next week

The US data calendar is modestly busy next week and kicks off with personal income, spending, core PCE and factory orders data on Monday. Tuesday sees ISM non-manufacturing along with the all-important FOMC rate decision. On Thursday we'll see the usual weekly jobless claims numbers as well as pending home sales data. Productivity, labor costs and wholesale inventories data round out the week on Friday.

The Euro-zone calendar is relatively light next week, but important events loom nonetheless. The week starts off with Euro-zone producer prices on Monday. Tuesday is busy with PMI services for Germany, France, and the Euro-zone along with Euro-zone retail sales. Wednesday has German factory orders on deck. Thursday closes out the week for data with a bang as German trade, French trade, German industrial production, and the ECB rate decision are all due up.

It is a similar story in the UK, which also sees a light but important week ahead. Tuesday starts the data week with industrial production, PMI services, and nationwide consumer confidence on tap. On Wednesday we'll see the BRC shop price index, a private measure of retail inflation. Last but not least, the BOE rate decision is up on Thursday.

Japan has a light week ahead which starts out with the leading index and machine orders on Wednesday. Thursday has bank lending data on deck and Friday closes out the week with surveys of current conditions and expectations for the economy.

The data calendar for Canada is also not very eventful. The Ivey PMI is due up on Wednesday and building permits are on deck for Thursday. Friday ends the week with the employment report. This more timely data will be key in terms of assessing Canada's economic outlook following the disappointing decline in May GDP.

We have an important data line-up down under as well next week. New Zealand labor costs and earnings kick off the week on Sunday evening. Australian home prices follow on Monday and the RBA decides on rates on Tuesday. Wednesday we have New Zealand employment and Australian home loans data up. Finally, we end with Australian employment on Thursday.

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