Forex Outlook

This morning the markets are responding reasonably well after Friday’s S&P downgrade of the US. The beleaguered ratings agency, who some say was largely responsibly for the banking crisis of 2008 dropped the US from AAA to AA as they forewarned if serious deficit reduction wasn’t agreed to in the debt ceiling debate.

While stocks and oil are much lower to start the day, gold has surged to new nominal all-time highs at $1715. The currency market sees this as “much ado about nothing” as it is trading orderly and looks like just another volatile day.

Because indeed, this much ado about nothing. There is a 0% chance that the US will default on its obligations as the Fed has the ability to turn on the printing press and print money to satisfy our creditors. However, this could be a question of valuation as the Dollar would be worth far less in that situation.

And that is one of the issues that some aren’t taking into consideration, that not only is it important that we are able to repay our debts, but that we are able to do so with something of value. Currency risk and political risk are all factors that need to be considered, and I think this is a great wake-up call for those in Washington DC who wish to continue to do business as usual.

Meanwhile in the Euro zone, the ECB has agreed to step up its purchases of Italian and Spanish debt, essentially trying to keep yields low so that debt can be repaid. While there is still risk in the marketplace, the global slowdown is a far bigger risk than the US potentially defaulting.

With no other news on the docket today, all eyes will be looking toward the FOMC meeting tomorrow which is bound to address this new development. Many in the market believe that this will lead to another round of quantitative easing (QE3), though its effectiveness at this juncture is uncertain. Some argue that the temporary kick we got from Fed easing was ineffective as the markets right now are back to pre-QE2 levels.

So there is risk aversion in the markets today, with the Dollar strengthening in what some might see as a counter-intuitive move. However this could become a case of sell the rumor, buy the news as this really is nothing more than egg on the face of Washington DC politicians who are conveniently on vacation until the end of the month. Get it together people!

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