Financial Conditions Look to Be Better

Calm seems to be returning to international financial markets.  US economic data released today surprised to the upside.  The US dollar is even losing its safe-haven bid with fear not as dominant in the market as in days past.  We could even see conditions set up for a normalization of credit and liquidity in the last quarter of the year.

Asian and European markets have done well for the past couple of days.  US markets have not been as resilient, but we haven’t seen major losses either (which is almost as good).  We talked about the carry yesterday, and it should continue to rebound as long as the Dow does well.  The only major negative report that we have heard regarding financial institutions is the discovery of $10 billion worth of asset-backed securities on the books of China’s national bank.  But that’s a bank that doesn’t have to worry about liquidity, so it is not something that should worry investors.

US economic data should also prove reassuring to traders at all levels.  New Home Sales came in with a dramatic 2.8% increase, registering a pace of 870,000 new purchases compared to expectations of only 820,000.  Durable Goods printed even better, rising 5.9% last month after a revised 1.9% growth the month before (check out dailyfx.com for an explanation of how you can make money trading currency on the back of the durable goods report).  Economists at Bloomberg only expected 1.0% growth in July.  What these reports mean is that the US economy was doing really well before the credit crunch this month, and if we can get passed the liquidity issue, the overall economy is on a good track.  As good news dominates the market, fewer investors feel compelled to park their assets in US dollars, and one place you can go right now is Canadian dollars.

The best case scenario in this situation is for world financial markets to settle down before the Fed’s meeting in September.  The ECB has reaffirmed its commitment to raising the overnight lending rate on the continent.  Bank of Japan Governor Fukui is determined to normalize Japan’s interest rates before too long because extremely low rates result in a misallocation of resources.  Time Magazine has a profile defining Fed Chairman Ben Bernanke as a man walking a “fine line” between inflationary pressures and threats to growth.  But Main Street looks like it may survive, and the Fed (hopefully) will be able to keep the Funds rate constant on September 18 without too much trouble.