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Friday, June 24, 2011

Bernanke's Darker Outlook Sparks Fear Of Currency Volatility

Investors are bracing for bigger currency swings after Federal Reserve officials signaled they won't do more to help the sluggish U.S. economy, judging from bets in the foreign-exchange derivatives market.

On Thursday, a gauge of expected volatility in the options market rose for many major and emerging-nation currencies. A widely-watched measure of bearish bets on the euro, called the "risk reversal," hit 2.75 from 2.55 a day earlier. That's near its 2.85 peak in late 2008 after Lehman Brothers Holdings Inc.'s collapse sparked a global economic crisis.

Federal Reserve Chairman Ben Bernanke's comments on Wednesday "spooked the market," says Ashwath Venkataraman, global head of emerging-market foreign- exchange options at HSBC Holdings PLC in London. Bernanke indicated Fed officials aren't planning new steps to pump money into the financial system even though the U.S. recovery remains weak.

However, "Bernanke was just a trigger," Venkataraman says. "There was a lot of underlying weakness in the market and Bernanke's comments just happened to push things."

Currency markets gyrated Thursday. First, a barrage of bad news about the global economy, including disappointing reports from China, Europe and the U.S., combined with Bernanke's dour economic assessment and nerves over the ongoing Greek debt crisis to push investors out of stocks, oil and riskier currencies and into the perceived safety of the U.S. dollar. The big fear: Global economic growth will fade in the second half of the year just as inflation risks rise.

Expectations also dimmed that the Fed will pump more cash into the economy, a development that could end what has been a clear, one-way bet in currency markets over the past 12 months: an ever-falling dollar. (read more)