Risk aversion remains the main theme across the money markets this week with equity market continuing to slide and the safe havens of the US Dollar and Japanese Yen performing strongly. Very positive German GDP yesterday gave the euro a boost in early trading but again developments in Greece have swamped any positive euro related news and driven the euro lower against the Dollar and Sterling.

News of large euro outflows out of Greece by citizens is not helping the nagging feeling that a Greek exit from the eurozone is approaching faster than European politicians would like.

They have desperately tried to manage the situation to ensure that if the worst did happen, Greece leaving could be orderly.

The fear is now that politicians no longer have the ability to manage the situation and a disorderly exit may now be on the cards.

The Bank of England inflation report is due today at 10.30.

We have covered what the Governor is likely to outline, namely lower that expected growth and higher than expected inflation.

The market has already built that into Sterling and the news will probably play second fiddle to news coming from the eurozone for the rest of the week.

Following last week’s US credit downgrade thus creating the highest levels of volatility seen for years, the wise money markets this week will be looking to restore some form of normality and calm. We saw huge swings in the FTSE which fell below the key 5000 mark on two trading sessions.

We also saw a brief bounce following the US Fed Chairman Ben Bernanke’s statement that the US will maintain interest rates at a low level only for unfounded rumours of French sovereign rating threat pushing the FTSE lower again.

This led to European leaders forcing a ban on short selling of banking stocks in four countries in an attempt to calm markets, however the success of this has been questioned by traders and City minister Lord Myners.

He said authorities and the Treasury should focus on more high-frequency trading which places trades within micro-seconds that exaggerates market volatility.

As a result of last week’s volatility we saw the Swiss Franc and Japanese Yen strengthen significantly as investors seeking protection from rising uncertainty in the markets.

Authorities in Japan and Switzerland are now looking at options to stop further appreciation in particular against the US Dollar.

Last week saw the JPY strengthen against the USD to 76.31 which last month prompted intervention from Japanese authorities to sell off the JPY.

In Switzerland the Franc did lose some ground as the Swiss National Bank’s indicated that it could align its currency to the Euro to prevent further escalation which moved GBPCHF from a low of 1.1511 last week to currently over 1.29.

Hope that you have a good week.

The rollercoaster ride continued yesterday as stock markets, fresh from Tuesday’s melt up, took another leg down with Banks again taking the brunt of the selling pressure. French banks, lead by Soc Gen, posted double digit declines after rumours of the size and scope of their exposure to Eurozone sovereign debt and talk of a French credit downgrade.

Both rumours have been strongly denied by the French authorities and it seems any nugget of information relating to both the Eurozone and US is being magnified hugely as markets depart from fundamentals and trade purely on politics and rumour.

The forex markets were no different, as we saw first a significant move upwards in the Euro-Dollar in the European trading session before it turned into a sharp reversal once the American trading day began.

The Swiss central bank attempted to reverse the recent surge in the Franc by expanding liquidity operations, but the bounce has been short lived so far as the safe haven currency continues to absorb funds fleeing riskier asset classes.

We are also approaching (again) levels were the Bank of Japan will intervene, the tide seems to be flowing against them, but they will continue with intervention until either the market turns or they run out of money and neither looks likely to happen any time soon.

Sterling was talked down by the Bank of England Governor Mervyn King during the Banks Quarterly inflation report yesterday.

We saw a huge move in the Pound in the Asian session on Tuesday night, from 1.64 all the way down to 1.61 and the trend continued yesterday as Mr King announced a downgrading of UK growth prospects and hinted that further QE has not been ruled out.

He stopped short of following the Federal Reserve in locking down monetary policy at current levels for the next two years, suggesting such measures were “not particularly sensible”.

Today has started in the same vein as the rest of the week – volatile.

Stock markets are up, which should help risk on currencies like the Euro and Sterling.

Developments in US monetary policy last night make it unlikely that the Greenback is going to see much improvement over the coming months; at least until there are more positive signs of a US economic recovery.The US news has lead to a general rebound of exchanges around the world following heavy losses last week and early this week on fears there could be a new recession due to the euro zone and US debt problems.

Markets in London and Paris are up1.8% in opening trade, as shares in Frankfurt jumped over 2%.

The Dublin market had gained 1.9% in the first few minutes of trade.

Overnight Asian stocks fought back some recent lost ground, following a rebound in US shares, after the Federal Reserve’s unprecedented pledge on rates.

Tokyo’s Nikkei index closed 1% higher, while markets in Australia rose by 2.6% and shares in Hong Kong finished 2.3% higher.

The single European currency has been given a let off following the judgment of the ECB to purchase Spanish and Italian bonds – even though this will be short lived.

Sometime in the future EU officials will need to make tough decisions about the Euro’s future but the European Central Bank decision has given them some breathing space.

This will likely reinforce the support levels for the Euro against the major currencies for the next 2-3 months.

Finally, Sterling has enjoyed a rare period of stability, if not demand, whilst pressure mounts on the Dollar and Euro, with Gilt yields falling on an almost daily basis as overseas investors rush to buy the perceived safe haven Government bonds (still AAA …..).

The outlook for Sterling is less clear however, especially given the recent evidence weak outlook for the UK recovery and continued civil unrest.

So where does that leave the market?

Well, buying Swiss Francs and Yen primarily, with both currencies continuing to appreciate despite the best efforts of the respective Central Banks to curtail the move – the Yen is now just stronger than prior to the BoJ intervention last week, whilst the Swissy has made considerably gains since the SNB tried to hold the EUR/CHF at 1.1000.

Gold has also maintained its strong run ….

Yesterday the Swiss National Bank (SNB) cut their interest rates to 0%-0.25%- the main motivation behind the cut was to help weaken the Swiss Franc. Overnight the Bank Of Japan intervened in the markets to weaken the value of the Yen for the first time since March.

The bank also expanded its asset purchase fund by 5 trillion Yen and kept rates near zero.

Both the Yen and the Swiss Franc have seen exceptional currency strength recently and the currency gains were impinging upon economic growth- this is why exceptional measures have been taken in an attempt to devalue their respective currencies and support growth.

USD/JPY leaped up to 80.00 from 76  pre-intervention and GBP/JPY from 125 to 130.

The overall mood in the markets is still very mixed with intervention by the BOJ coupled with more negative feelers from the Euro periphery and real concern on the economic climate in the US.

Tomorrow we see non-farm payroll numbers from the US and this data will be hugely important on the backdrop of very negative data recently from the US economy.

It is key that the number is either above or in line with expectations- with the sheer volume of US debt it is vital that growth supports the fiscal condition of the US economy.

We have several American data releases on the menu this week but possibly the most significant for the US Dollar exchange rate will be the minutes of last months FOMC meeting. Coupled with speeches by Fed officials including Bernanke, investors will be watching carefully for clues to Fed policy post the end of QE2.

The Fed’s attitude at this point will be the major factor of whether the Dollar can maintain its rally over the next few weeks.

The lack of encouragement in US bond yields suggests that USD drive could slow, with markets likely to shift into wide ranges over coming weeks.

One should also consider which currencies will suffer more in the event of further USD gains.

The relationship linking the USD index and EUR/USD is extremely strong signifying that the USD gains are mainly a result of the single European currencies woes.

Apart from the EUR, GBP, AUD and CAD are the most susceptible major currencies to USD strength as many emerging market currencies including ZAR, TRY, SGD, THB, IDR, and MXN, are all highly susceptible to the impact of a stronger USD.

Japanese officials have been avoiding further forex interference blaming the drop in USD/JPY over recent weeks on general USD weakness in spite of the move towards 80.

However, this stance is not really backed up by correlation analysis which shows that there is only a very low sensitivity of USD/JPY to general USD moves over recent months.

One explanation for the strength of the JPY is strong flows of portfolio capital into Japan, with both bond and equity markets registering net inflows over the past four straight weeks.

The news that Osama Bin Laden has been killed by US security provided the Greenback a lift and its gains have continued for a second day. Acute short market positioning coupled with increasing risk aversion (perhaps due to security concerns following Bin Laden’s death) have helped the US Dollar.

However, the boost to the US Dollar could be brief in the current environment in which it as it remains the global funding currency.

Without a doubt, the fact that US bond yields have fallen severely over recent weeks continues to challenge the USD against various currencies.

The Greenback rose in spite of the US ISM manufacturing index dipping, albeit from a high level.

The survey provided some useful clues to Friday’s US jobs report with the slight decline in the employment element of the ISM survey to 62.7 inline with a 200k forecast for April payrolls.

US Dollar /Japanese Yen is trading dangerously close to levels that may provoke FX intervention by the Japanese authorities.

General USD weakness fuelled a drop in USD/JPY which has been exacerbated by a rise in risk aversion over recent days (higher risk aversion usually plays in favour of a stronger JPY).

The biggest determinant of the drop in USD/JPY appears to a narrowing in bond yields (2-year bond yields have narrowed by around 20bps over the past month) largely due to a rally in US bonds.

Today is all about inflation and just how much of the increasing price pressures are being absorbed by industry and retailers and how much is finding its way onto the consumer. The headline figure has come in at +0.7% m/m, +4.4% y/y, stronger than median forecasts +0.6%, +4.2% respectively which in the highest y/y rate since October 2008.

According to the Office for National Statistic the biggest upward impact on CPI came from housing, domestic heating bills and clothing.

In addition the PSNB in February at £10.280 billion, worse than median forecast of  £8.0 billion.

PSNCR came in at  £6.981 billion compared to median forecast  £4.2 billion.

Public finance data makes poor reading just ahead of the Chancellors’ Budget tomorrow.

Expect Sterling to pick up further today based on the high number but as to whether this is a correct move remains to be seen.

With growth expectations anticipated to be revised lower by the OBR, an immediate raising of rates looks likely to be counter-productive.

With Trichet again cementing the prospect of a rise in Euro rates next month, the single currency appears the likely recipient of short-term differential trades.

We are due no further relevant data today so Central Bank comment should prove to be the catalyst for additional forex volatility.

Japan’s Nikkei index opened over 2% higher after a holiday closure yesterday despite the nuclear situation remaining on high alert.

According to atomic officials, Fukushima Daiichi’s reactor 2 remains a danger as white smoke continues to drift into the sky from the plant.

The surrounding areas are now experiencing levels of higher-than-normal radiation up to 120 miles away.

Following last week’s intervention the JPY has been restored to relative normality against the USD and currently sits at 81.09.

George Osborne is set to announce his first budget on Wednesday, on the same day we also see the latest Bank of England minutes and tomorrow last months CPI inflation figure is released. Starting with the Budget, there are not set to be any new tax hikes or spending cuts in the announcement, with the Chancellor set to focus on trying to stimulate growth.

This should be broadly Sterling positive especially if he manages to persuade high profile businesses to move back to the UK.

The Bank of England minutes should also be very interesting, a 5-4 split should indicate an interest rate rise sooner rather than later.

Another 6-3 result would confirm the current market thinking that a rate rise before Q4 is looking increasing unlikely.

Finally, the CPI figure will closely watched but it not as important as previous month.

Wise Money expects the inflation rate to increases once more, but the credibility of the BoE will only come under further scrutiny if inflation fails to fall back towards target as the bank is currently predicting, and the current supply side shocks in oils and commodity prices turn out to be permanent rather than temporary in nature.

Last weeks combined intervention by central banks in their respective Yen pairs was broadly successful in curbing the rampant Yen strength in the aftermath of the last week’s earthquake.

More intervention is rumoured to be on the cards this week so if you are selling Yen you will need to keep a close eye on the rates.

We do have Japanese CPI figures due for release later in the week, but expect that to play a small roll in the Yens value moving forward in light of the events still evolving in Japan.

The Group of Seven agreed to jointly intervene in the foreign exchange markets for the first time in more than a decade after Japan’s currency soared, threatening its recovery from the March 11 earthquake. Japan began the effort, sending the currency down the most against the dollar in more than two years.

Each of the G7 members has sold yen as their markets opened, Japan’s Finance Minister Yoshihiko Noda told reporters.

The G7 said in a joint statement after a conference call of its finance ministers and central bank chiefs that it will “provide any needed cooperation” with Japan.

Japan’s central bank repeated its pledge to pursue “powerful monetary easing” as policy makers sought to reduce the threat of the world’s third largest economy sinking into a recession.

The Nikkei 225 Stock Average gained after the announcements, paring losses to 12 percent since the quake and ensuing tsunami killed thousands and led to rolling blackouts and radiation leaks at a nuclear plant.

It is another light day on the data front- the monsters that are Greek, Chilean and Argentinian GDP figures are hardly going to move the markets.

We did have the German PPI number earlier which was announced inline with expectations at 0.7%, but still a strong number.

This has continued the euro strength trend that has dominated the markets recently and could persist if any more chat about the ECB raising their interest rates hits the wires.