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FAROS TRADING | FX Morning Update

09/28/2010
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The Dollar is headed lower. China Sets the Direction (lower) and Speed, the Fed adds the
Accelerant.

If the USD was a race car we would break it down in the following way. These days the People's Bank of China is in
charge of its direction, and calls it at the 9:15 pm CNY fix every evening. Targeted speed is also set by the People's Bank
of China, based upon the magnitude of the move in the fix from the previous day. The targeted speed is then affected by
tail winds. Tail winds for USD weakness come from announcements by the Fed regarding further quantitative easing
measures. Tail winds for USD strength come from announcements and news from periphery European data.

We are convinced that the CNY fix, although moving through a period of noise at the moment due to the currency bill
moving through the House and soon up for a vote, will over time continue to move lower, strengthening the CNY and thus
weakening the USD. We have exhaustively displayed a number of charts detailing the causal relationship between CNY
fixes and the USD Index. The causality exists, and is now joined by the additional fuel provided by a slew of both
developed and developing reserve managers as they diversify out of the USD following their daily interventions. Just last
night we heard Singapore's MAS, Indonesia's BI, Malaysia's BNM, South Korea's BOK and the Philippine's BSP were all in
the market, in addition to yesterday's interventions by Brazil's BCB, Peru's Central Bank, and Colombia's. We have heard
the majority of these Central Banks turn around and sell their USD's in later trading sessions against the IMF SDR
currencies of EUR, GBP and JPY.

Speed comes from magnitude. The greater the move in the fix from the prior day, the greater the move in the USD. Going
into the UN meetings last week we saw tremendous moves in the CNY fix, followed by the same in the USD Index. We are
in a lull at the moment leading up to the US House vote, but would expect further movement going into the G20 meetings in
October.

Tail winds to USD weakness come from leaks and news of further Fed quantitative easing. Last night saw a WSJ article
that discussed the Fed's options related to QE2, suggesting the Fed may use an open ended gradual QE approach rather
than QE1's 'shock and awe' approach. We would argue that open -ended is far more dangerous for the USD in that it is
just that, open-ended. Bernanke is free to do whatever it takes.

Tail winds to USD strength come from announcements and news from periphery European data. We have already spoken
ad-nauseum on the CDS spreads in the PIIGS, and how they already reflect further debt downgrades are warranted by the
ratings agencies. Given the EUR/USD trades more on the CDS than on debt downgrades we doubt that the overnight
news that Spain could be facing further downgrades should have much follow through in the EUR/USD. We also note that
the EUR/USD has been rallying of late despite further moves out in the CDS spreads; perhaps as the market realizes the
futility of trading the most liquid market in the world based on the moves of one of the most illiquid markets.

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1 Dock Street
Stamford, CT 06902
www.farostrading.com
www.twitter.com/FarosTradingLLC

FAROS TRADING | FX Morning Update

Many point to the gold market, and the out-sized long position. While we do not trade in this market, we would note that
while the speculator market may be long gold, Central Banks are increasingly underweight, and are looking to change that.
In a time of weakening currencies and 'beggar thy neighbor' policies, and at a time when most reserve currencies would
prefer weakness over strength (except for GBP we would note), it makes sense that reserve managers would look to gold
as a store of value. After all, reserve managers today want to conserve value, rather than earn return. Flat is the new 'up'.
This has been explained to us in detail by the PBOC, as it has often stated it is unwise to have all eggs in one basket as
they indirectly point to their nervousness over the value of the USD in their reserves portfolio.

We expect USD weakness will continue, and suggest any USD strength be faded. Based on our analysis the USD Index
remains about 10% overvalued relative to the USD/CNY. We expect this difference will gradually decline, as the USD
Index weakens to catch up with USD/CNY.

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