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Tuesday November 9, 2004 - 21:23:10 GMT
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Forex: Dollar Rallies With Fed Rate Hike Expected

DailyFX Forex Fundamentals 11-09-04

By Kathy Lien, Chief Strategist www.dailyfx.com

· Dollar Rallies As Fed Expected To Raise Rates By Quarter Point
· European Commission Backs Trichet’s Position On Euro
· German Investor Confidence Dips to 23 month low

EURUSD

The euro continues to slide as verbal intervention picks up steam increasing the risk of the retracement in the euro becoming another top. This morning the European Commission backed ECB Trichet’s position on exchange rates. If you recall, yesterday Trichet said that the recent EURUSD moves have been “brutal” and that “brutal moves are not welcome from the standpoint of the ECB.” ECB members Issing, Quaden and Liebscher also chimed in and confirmed their support of Trichet’s stance, adding that a further increase in the euro is undesirable. The EU plans on conducting a meeting to discuss exchange rates next week. The recent volatility is certainly a major concern of theirs and unless market forces allow the euro to retrace, their next logical topic of discussion would be physical intervention. Meanwhile a much weaker than expected German investor confidence survey (ZEW) also dragged the euro lower. The economic expectations index fell close to a 2 year low, well below its historical average of 34.6. There are a lot of reasons for falling confidence in the German economy; industrial production, factory orders and retail sales have been weak. The “experts” surveyed by the ZEW institute expect the lack of significant global growth, last month’s high oil prices and the rally in the euro to hurt external demand for German goods, which could put the already weak recovery at risk of tipping back into a recession.

USDCHF

Two very important data releases tomorrow could hold the fate of the dollar – that is the trade balance for the month of September and the FOMC rate decision. The trade balance is expected to remain at $54 billion in September, which is only a billion shy of the record high. A 19% surge in oil prices during the month of September is expected to drive the value of imports higher, but the increase in imports should be offset to some extent by an improvement in the service deficit. Another unexpected widening could cause result in a dollar sell-off, however losses should be limited as traders remain cautious ahead of the afternoon’s FOMC rate decision. Each of the 89 economists surveyed by Bloomberg expect a quarter point hike, therefore the actual tightening itself will not lead to any fireworks in the currency markets. The real wildcard is once again the FOMC statement. Many believe that the Fed will leave the word "measured" in their statement, giving them the flexibility to respond to November's economic data. As the Fed suggested in September's statement, the US economy has appeared to have moved out of the spring / summer soft patch. The dollar sold off though despite the rate hike as the market focused on the statement’s easing inflation assessment. The Fed's more optimistic assessment has been difficult to believe with oil prices eventually hitting a high of $55.85 and September payrolls falling to 96k. However, since then oil prices have fallen 13.5% off its highs and payrolls surged to 337k in October. Therefore the dollar should react more positively to a hawkish FOMC statement. More specifically, we would not be surprised if the Fed removed or at least downgraded the significance of energy prices in their statement. Current Fed fund futures are pricing in a 79% chance of a December rate hike. A hawkish statement would tip the scales further in favor of another rate hike in December, which could provide some upside momentum for the US dollar.

GBPUSD

Today was another unchanged day in the GBPUSD as dual forces gave both bulls and bears reasons to trade the pound. On a positive note, the UK trade deficit narrowed unexpectedly from –GBP5.2B to –GBP4.5B in September. The lower value of the pound compared to this past summer helped to boost UK exports to non-EU countries. However, the details of the report are not as encouraging given that the UK did become a net oil exporter for the first time in 13 years. Their oil balance fell from a GBP340M surplus to a GBP254M deficit. If oil prices resumes its uptrend, this will become a major cause for concern for the pound. Bears came out of their cave on a report that indicates that retail sales grew by their weakest pace this year. Consumer spending has been one of the remaining areas of strength in the UK economy. The recent weakness indicates that the slowdown in the housing market may have finally hit the pocketbooks of consumers.

USDJPY

The dollar has finally been able to muster a rally against the Japanese yen, despite the fact that the rally was a rather weak one. Verbal intervention by Japanese Finance Minister Tanigaki has given reason for some dollar yen bears to take profits. Traders continue to suspect that the 105-level is a primary focus for the Ministry of Finance. Meanwhile, the data released overnight was bearish for Japan, giving the yen more reason to give it backs recent gains. Business confidence of workers with jobs sensitive to economic trends worsened for the third consecutive month. Typhoons and earthquakes have dampened consumer sentiment. As a result, Japanese consumer confidence is expected to be weaker in the month of October.

 

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