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Good Day Currency Traders!

Last week, the U.S. market posted its worst week in five years. As if it weren't painful enough, stock markets across the world sold off overnight.

Europe was thrashed. Europe's Dow Jones Stoxx 600 index fell 4.1%. That's the most it's plummeted since the September 11th attacks. The German Dax fell the most since 2003 (down 5.3%). The CAC 40 (which tracks French stocks) and FTSE 100 (which tracks the U.K.) also sank tremendously.

It wasn't any better in the Far East. Hong Kong's Hang Seng Index had its biggest drop in six years - 5.5%. Japan's Nikkei 225 Index slipped 3.9%. India's Sensitive Index dropped the most since 2004. Australia's stock market fell for the 11th straight day.

Now that the Europe's Dow Jones Stoxx 600 has dropped 20% from its high, we're officially considered to be in a "bear market there."


Why the World Cares about the U.S.'s Performance
Why are all of these indices around the world falling so much? It's because traders around the world all believe the same thing. They all think a recession is coming in the United States. And a U.S. recession will cause other economies around the world to slow down. That means more layoffs leading to a higher unemployment rates, interest rate cuts, lower retail sales, etc.

So they are "fearing the worst" and rightfully so. This is what I've been predicting for months now and here it is.

Even the European Central Bank's Wellink said last night that "economic growth in the Eurozone may slow more than policymakers had expected."

Apparently the slower growth is catching policymakers by surprise.

Unfortunately, we've not seen the worst of it yet. The U.S. stock market is closed today for Martin Luther King Day. So U.S. traders don't get a chance to do anything about the global sell-off until tomorrow.

I've said for a while that the Fed is and has been behind the ball on interest rate cuts. The Fed just can't cut rates fast enough at this point to save the economy. No matter what they do at the next Fed meeting on the 30th, it will take at least 6-9 months to affect the economy.

Oh yeah, but Congress is supposed to step in and help right? They're supposed to start sending checks and handing out tax cuts to Americans? In reality, the U.S. government is pathetically slow at getting things done. It's possible that Congress will act, but not in time to avoid a recession.

The only thing Congress can do is possibly shorten this recessionary environment. I don't think a US$100 check to the poorest Americans is going to keep us from a recession in America. Personally I think we're already in it.

That's why last month the unemployment rate went up to 5% from 4.7%. It's why only 18,000 people were hired last month in the United States. Holiday sales were horrible and some companies had to layoff workers even before Christmas. That's when you know it's bad.

So economists will have to readjust their forecasts downward and companies will have to lower their earnings guidance for the upcoming quarters.

The Only Winners in this Global Losing Streak
Carry-trades sold off big time last night. The winners once again in all of this turmoil were the Japanese yen, Swiss franc and the U.S. dollar. Last month, very few believed me when I said the U.S. dollar would benefit from a U.S. slowdown.

I know that bucks the conventional wisdom because normally a slowdown in an economy coupled with interest rate cuts will bring a currency's value down. However, the U.S. dollar been sold off for several years in a row now. It's at 30-year lows and much of the "slowdown" has already been priced into the buck.


U.S. Dollar Index Clawing Its Way Back Up


On top of this, central banks from around the world are starting to cut interest rates. The U.K. and Canada have already cut rates. In fact, Canada is expected to cut rates again this week. It may not be long before the ECB has to cut rates in Europe. So with these countries cutting rates, it's going to take some of the "sting" out of the rate cuts that happen in America.

Traders will continue to run to the "beaten down assets" like the yen, franc and dollar as this turmoil worsens. These three currencies are some of the most oversold assets on the planet. So they've got a long ways to go. These three currencies could rise for quite some time before they get anywhere close to "fair value."

The biggest beneficiary of 2008 will be the Japanese yen. The biggest "shocker" of 2008 will be that the U.S. dollar doesn't plummet hard on "recession" news and interest rate cuts. Right now, these assets are seen as a "safe haven" in this fallout.

Sean Hyman, Currency Director




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Making 'Cents' of the Headlines
Four Things that Must Happen Before
the U.S. Markets Can Turn Around

From our Currency Director: Sean Hyman

So what will it take for things to improve and turn around in America? It will take many factors working at once. Let me go through several of the most important ones.

Housing Market Needs to Stop Declining. In short, housing must improve. When will this happen? Housing stocks usually recover many months before the actual housing market does. That's because the stock market likes to price in what traders think will happen in the next six months. So when these stocks turn up, (as shown in this housing ETF graph below), then we may be only be months away from a housing turnaround that will benefit the economy. So look for the downtrend line to break as a starting condition for the economy to recover.



The S&P Homebuilders Index: XHB



Oil Prices Must Continue to Fall. High oil is like a tax on the consumer. There are a lot of things you have the choice of buying or not buying...gasoline for your car is not one of them. So as the price of oil and gas go down, this will put more money back into the consumer's pocket. That will do more good than what will come out of Washington, D.C.

Interest Rates Need to Be Slashed Further. As interest rates drop, credit becomes cheaper. So loans for consumers and corporate America cost less. Therefore the consumer and corporate America can get back into "growth" mode. As corporations can borrow to expand more cheaply, then things will look up again. That will take care of the unemployment problem in time. Earnings typically pick up first and then additional hiring follows afterwards. So there will be a delay at first...but be patient. At least you'll see the "light at the end of the tunnel" as corporate earnings improve.

Finally, We Need a Vote of Confidence from Consumers. We'll see this when they spend. So watch the U.S. retail sales numbers. We won't have an economic recovery without the consumer being involved. So watch for the Retail Index (RLX) to pick up. Again, many times...these indices will precede what we see in the economy. However, that's a good thing because it gives you a heads up. So once you see these things improve, wait a few months and then start tip toeing back into the stock market and into high yielding currencies.

In the meantime, beaten down assets and defensive assets will remain financially supreme.