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Tuesday February 26, 2008 - 22:54:53 GMT
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FOREX RESEARCH - What Drove the US Dollar to a Record Low?

Written by Kathy Lien, Chief Strategist

• Euro Hits Record Highs, Can it Break 1.50?
• New Zealand Dollar Surges to 24 Year High, Oil Prices Trigger Strong Gains in the Canadian Dollar

What Drove the US Dollar to a Record Low?
It has been a record breaking day in the financial markets with the US dollar falling to an all-time low against the Euro and crude oil futures closing at a record high. Although US Consumer confidence dropped to a 5 year low, that was not the primary catalyst for the dollar’s slide. Instead, the downward spiral was triggered by the combination of things including comments from Federal Reserve President Kohn, stops being taken out at the prior high, weaker consumer confidence, stronger Eurozone economic data and concerns about what Ben Bernanke will say at his testimony on monetary policy tomorrow. Kohn has already warned us that the central bank will do what it takes to fight a recession. With foreclosures rising 90 percent in the month of January from the same period last year, consumer confidence tanking and oil prices hitting new highs, it is absolutely necessary that Ben Bernanke makes growth his top priority. We doubt that the Senate our House panels will allow him to get away with talking about price pressure when most of their constituents probably feel like the US economy is already in a recession. Therefore even though the annualized pace of producer price growth rose was the fastest pace since 1981, the impact on the US dollar was limited because the market quickly realized that right now, stronger inflationary pressures will not stop the Fed from continuing to lower interest rates. The futures market is still pricing in a 50bp rate cut for the March 18th monetary policy meeting and recent economic data suggests that the US central bank cannot afford to slow down. The price action in the US dollar today clearly indicates that this is what the market expects Bernanke to tell us tomorrow. New home sales and Durable Goods orders are also due for release. Existing home sales were stronger than expected, but new home sales should remain soft and even if it rebounds, it will not help the dollar much because either inventory will rise or prices will fall, or both. As for durable goods, after increasing 5.2 percent in the month of January due to non-defense aircraft sales, a healthy decline is expected.

Euro Hits Record Highs, Can it Break 1.50?
The Euro hit a record high of 1.4983 against the US dollar which is a tease for many traders who are itching for a break of 1.50. We are sure that a number of stops and option barriers at the 1.50 level is the primary reason why the EURUSD is having such a difficult time breaking it. This tells us that if and when the break occurs, the extension should be sharp and rapid. We do believe that a break of the 1.50 level is just a matter of time. In fact, all month we have been calling for a test of the record highs. Like the ZEW survey of analyst sentiment, the IFO survey of business confidence also improved in the month of February. With the European stock market stabilizing, Germans are feeling more confident that the policy actions enacted by various central banks will be enough to stabilize the financial markets. Fourth quarter GDP in Germany was right in line with expectations, but some of the subcomponents were weaker than expected. Tomorrow Eurozone money supply and German import prices are due for release. The largest nation within the Eurozone is also expected to be hit by rising food prices. Yesterday, wheat prices climbed a whopping 25 percent in one day which will lead to another round of inflationary pressures. Meanwhile the UBS Consumption Indicator also came out stronger than expected, helping to lift the Swiss Franc.

Visit the Euro Currency Room for resources dedicated specifically to the Euro.

New Zealand Dollar Surges to 24 Year High, Oil Prices Trigger Strong Gains in the Canadian Dollar
The Canadian, Australian and New Zealand dollars are all up strongly on the back of broad dollar weakness and rising commodity prices. The biggest market mover today on a percentage basis was USD/CAD which fell more than one percent. There was no meaningful economic data released from any of these 3 countries and tomorrow we only have tier 2 economic data which includes New Zealand building permits and business confidence. This means that any further appreciation in the commodity currencies will be driven by commodity prices, sentiment and the US dollar. For the time being, we see no reason for the current trends to change.

Tell us what you think on the Canadian dollar Forum.

British Pound Fails to Waver on Weaker Economic Data
The British pound rose over 200 pips today despite a disappointing survey of CBI distributive trends. According to the report, sales fell for the first time in over a year. However Bank of England member Besley is not alarmed by the weakness of consumer demand and in fact, he feels that the recent fall in the British pound should help exporters. It will be interesting to see if the British pound is able to hold onto its gains following the GfK consumer confidence report and GDP. We expect growth to slow in the fourth quarter as retail sales dropped two out of the last three months of 2007.

Visit the British Pound Currency Room for resources dedicated specifically to the Euro.

Carry Trades Continue to Struggle
The Dow rose 100 points yesterday and 100 points today but carry trades have continued to struggle. USD/JPY, AUD/JPY and NZD/JPY have not participated in the rally, leaving EUR/JPY, CAD/JPY and GBP/JPY the only ones at the party. We continue to believe that carry traders need to be particularly selective because the current market environment is not conducive to a carry trade rally. Japanese economic data was stronger than expected with both corporate service prices and small business confidence beating expectations. There will be no Japanese economic data released this evening.

Visit the Japanese Yen Currency Room for resources dedicated specifically to the Euro.

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