Future of the US Dollar with AA+ Rating

Following the Friday’s US credit rating downgrade by Standard & Poor’s the Forex traders are wondering how will the currencies react tomorrow and where will the dollar head during the next few weeks.

Standard & Poor’s rating agency reduced the long-term sovereign credit rating of the United States from “AAA” to “AA+” (which is somewhere between very strong and extremely strong capacity to meet the financial commitments) on August 5. The US was removed from their CreditWatch list, but the rating outlook remained “negative”. The main reason for this downgrade was the conditions of the debt-limit raising deal adopted in the US Congress earlier this week:

The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics.

None of the two other biggest credit rating agencies (Fitch Ratings and Moody’s) followed S&P. They still grant the United States their highest ratings possible (“AAA” and “Aaa”).

There is an intrinsic difficulty in forecasting the USD future in the current situation — this is the first rating downgrade in US history, leaving the analysts without precedents to research. In addition, the effect of such a downgrade on the US currency may be dual: it may signal the approaching economic recession, thus raising the demand for safe-have currencies (one of which, the US dollar probably still is), or it may signal only weakness in the US economy and more precisely in the US debt papers, driving the demand off the US Treasury notes.

Another point is that this downgrade action is already priced into the market. That doesn’t look very likely, as the Friday trading wasn’t characterized by the big currency movements.

Under these conditions, it is more prudent to analyze the possible behavior of the separate currency pairs — EUR/USD, GBP/USD, USD/JPY and USD/CHF, because the outcomes for each of them may be quite different.

EUR/USD

The euro is also burdened by the debt and fiscal troubles that have led to credit rating downgrades of some Eurozone states. Fortunately for the euro, there is no unified credit rating for the Eurozone. Nevertheless, the euro may get hit hard from the US downgrade, as the traders might get scared away by the possible new series of rating reductions in Europe. If the news for the United States are bad, the news for the Eurozone aren’t any better. In addition, the technical charts show that the EUR/USD currency pair is still consolidating. All this suggests a very uncertain future for the Forex pair with a high chance for a range-bound market.

Most probably, the Monday trading session will open with an wide upward gap on EUR/USD and the whole day will be spent filling it. In case the pure speculative trading prevails, the rate may be pushed to rally either up or down. If that happens, the technical analysis suggests the next resistance level near 1.4900 and the next support level near 1.3830.

GBP/USD

While the British pound is closely tied to situation in the Eurozone, it traded more robustly than the euro during the last several weeks. Although the UK economy is currently characterized by a very slow growth combined with a soaring inflation, the government takes serious measures to decrease the public debt and there is a great confidence in their actions among the consumers and business. The United Kingdom still holds the highest S&P rating — “AAA”.

On the other hand, the US rating cut opens up a possibility for the downgrades of the other developed countries, which could feel safe earlier. The United Kingdom is not an exception. But even if that happens, it won’t be too soon, so, fundamentally, the pound remains stronger than the euro and the US dollar.

From the technical analysis point of view, the GBP/USD may rally to 1.6700 without any significant stops on the way. In case of a run to safety (an increased demand for the USD, JPY and CHF), the near-term target of 1.5935 seems viable.

USD/JPY

USD/JPY analysis is complicated with another factor (which is also an issue for the Swiss franc) — the currency intervention by the Bank of Japan, which has sent the pair up to the monthly high in a single trading session last Thursday. Although the pair has corrected on Friday, the influence of the Japanese intervention can be felt again next week.

There’s also a yen-positive factor though. It’s in a long-term bullish trend, which seems to be unstoppable, despite all the rhetoric from the Japanese financial authorities. In spite of the previous currency interventions, the yen has always managed to recover quickly.

Resistance level at 80.85 is a nearest medium-term target in case of a dollar-bullish scenario. USD/JPY all-time low of 75.98 remains the probable support level for the currency pair in case it rallies south.

USD/CHF

Swiss franc is ridden with the same worm as the Japanese yen — the intervention of the central bank. But in case of franc, the effect of the intervention was minimal and there’s a high amount of probability that all the SNB‘s work to hold down the national currency’s appreciation will be futile. Moreover, the franc is has two advantages: it’s a safe-haven currency — probably the most popular one nowadays, and it’s also often bought as an alternative to the euro when the traders are demonstrating risk-aversion.

CHF looks to be the only currency that is definitely going to benefit from the S&P rating action. The USD/CHF Forex pair is already near its all-time low, so it’s very difficult to forecast the possible bearish target — it will depend on how persistent the Swiss National Bank will be in its anti-franc measures. In an unlikely case of the bullish rally, the pair might rise to about 0.8545 as the first medium-term resistance.

Conclusion

There’s less than five hours left until the Forex market opening (the New Zealand session), so the real outcome of things will be know soon. Nevertheless, there’s still some time to liquidate or revise your old pending orders if you missed the S&P announcement.

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