Good morning traders, I am writing from Oxford UK for the next week or so. After yesterday's full news day in terms of the earthquake, Libyan turmoil it seems unlikely that the markets will pause for long before another set of data or events impact them. The main event for the week ahead certainly has to be the Jackson Hole gathering of Fed governors as well as other policy related types. I have mentioned in previous postings here over the last couple of weeks regarding the connection between USD/CNY and the upcoming Jackson Hole gathering, from 8/17:

USD/CNY (Chinese Yuan) has dropped sharply in the last couple of days. For a currency that is closely controlled/managed by the Chinese government/Bank of China, this move lower in USD/CNY appears to have the approval from the powers that be. But what does that suggest?

That posting went on further:

While there has been no explicit mention of QE3 by The Fed, last week's decision to keep rates on hold at 25 bp's until 2013, while unprecedented, certainly could be viewed as yet another derivative of QE - perhaps, as noted in Point #1 above we have begun to see such a shop drop in USD/CNY. Back in late August 2010, ahead of the Jackson Hole Summit, USD/CNY dropped in a similar manner - mere days before the announcement of QE2. Now with the Jackson Hole Summit 2011 a mere 2 weeks away, once again we see USD/CNY pushing lower in a similar manner- coincidence or is something being orchestrated ahead of Jackson Hole? Why is this worth noting? Well, in my view, not only does last week's Fed decision represent a solid buffer for a deteriorating economic outlook, what other proposals could be hatched in Jackson Hole? It is not my intent to determine what those may be, but to simply suggest that some other attempts to ease the economic burden in the U.S. may be forthcoming. Hence, my view that the U.S. may largely avoid a recession and simply 'muddle through'. The implications, from a trading/investing standpoint, in both FX and other asset classes hinges upon which path the U.S. goes down.

Granted, this is but one observation and subject to revision or even outright rejection based on data and events that lie ahead. At this point the markets are likely quite keen on yet another round of monetary magic from Jackson Hole given that equities have continued lower despite the 2-year lock on rates per the last Fed meeting. Consider this:

• Bank stocks, led by sharp declines in Goldman Sachs (GS) and Bank of America (BAC) do little to instill confidence given that bank stocks are normally seen as forward looking indicators of market health. The recent break below 42.70 in the Bank Index (BKX) suggests that the move off the 2009 lows was merely a correction and prices are now heading lower for a sustained period.
• The recently released Richmond Fed number was consistent with an ISM reading well below 50 - a level that suggests recession.
• Last weeks reading of roughly -30 in the Philly Fed was also alarming

In the past these are all indicative of a market in which the Fed would act and act decisively, but after such an extended period of monetary stimulus and essentially a 2-year lock on rates, what more can be done? Even if something was announced, what would that signal to the markets? Old habits die hard and the market is used to getting 'bailed' out when equities get weak so it is reasonable to expect that is their expectation heading into Friday's Jackson Hole summit.

I will not profess to know what the outcome will be in terms of a statement, but to me it seems like the risks are skewed towards a weaker dollar and higher gold regardless. Further policy could concern the markets and no policy would be seen as disappointing. When all is said and done, that is the framework we should operate from - this macro view is also supported by the technical backdrop and our existing short in AUD/JPY is in alignment with the above bullet points. -DF-

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