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Tuesday June 17, 2008 - 20:16:27 GMT
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FOREX NEWS-Dollar falls after grim U.S. housing data

Tue Jun 17, 2008 4:10pm EDT

* Dollar falls as housing starts plunge in May

* U.S. headline PPI surges in May, curbing dollar's fall

* Mixed data reduces chances of early Fed rate hike (Recasts, adds comments, changes byline)

By Vivianne Rodrigues

NEW YORK, June 17 (Reuters) - The dollar fell against the euro on Tuesday as U.S. housing starts plunged to their lowest level in more than 17 years in May, casting more doubt over an anticipated early Federal Reserve interest rate increase.

But losses were limited, with traders also paring expectations of tighter monetary policy in the euro zone after ECB Executive Board member Lorenzo Bini Smaghi said a quarter-point hike should bring inflation below its target.

"The dollar lost a lot of steam after the housing data," said Samarjit Shankar, a director for Global Strategy at The Bank of New York Mellon in Boston. "The market got ahead of itself last week betting on a rate hike, but the truth is that the economic data does not fully support that."

Housing starts set an annual pace of 975,000 units in May, the lowest since March 1991. For details, see [ID:nN17336776].

Other reports showed U.S. industrial production slipped unexpectedly in May and a surprise widening in the first-quarter current account deficit.

The euro rose earlier to $1.5551 <EUR=> and in late afternoon trading in New York it was last at $1.5517, up 0.3 percent on the day. Against the yen, the dollar fell 0.2 percent to 107.94 yen <JPY=>.

"The worse-than-expected U.S. housing starts and building permits are a stark reminder for fed funds futures not to get ahead of themselves in pricing rising chances of a rate hike later this year," said Ashraf Laidi, chief currency strategist at CMC Markets in New York.

Short-term interest rate futures, which track market expectations for Fed policy, showed around a 55 percent of a quarter-point interest rate increase in August, down from 90 percent late on Monday.

RESTORE DOLLAR APPEAL

Speculation of an early policy tightening from the U.S. central bank ignited a dollar rally last week as this would restore some of the greenback's allure to investors seeking higher returns.

The Fed has slashed its benchmark overnight rate by 3.25 percentage points to 2.00 percent since mid-September in a step aimed at preventing a recession in the housing sector from spreading to the broader economy.

Analysts remain convinced that the Fed will raise interest rates by year-end, citing an unexpected 1.4 percent rise in the headline producer price index in May, which pointed to growing inflation pressures already highlighted by the central bank.

"This will support talks of the Fed hiking rates before year end. Should be slightly dollar supportive but only slightly so given that it is PPI," said Matthew Strauss, senior currency strategist at RBC Capital Markets in Toronto.

Earlier, Germany's ZEW index of economic sentiment for June came in sharply below forecasts, pushing down euro zone yields and implied rates.

Euro zone interest rate expectations were also trimmed after the European Central Bank's Smaghi indicated a single hike would be sufficient to bring back inflation below the bank's 2 percent target.

In the UK, the annual Consumer Price Index rate jumped to 3.3 percent in May from 3 percent, the highest since the Bank of England was granted independence in 1997, prompting a letter to the Treasury from BoE chief Mervyn King explaining the rise.

But King struck a rather more dovish tone than many had expected, arguing that aggressive action to cool price pressures over a 12-month horizon would spur market volatility and inflation could even undershoot its target over two years.

That caused sterling to fall broadly. Sterling was down 0.3 percent against the dollar at $1.9568 <GBP=>, after falling as low as $1.9470. The euro was up 0.6 percent against sterling at 79.27 pence <EURGBP=>.

"There seems to be a broader attempt by central bankers in the major economies to rein back some of the expectations about the Fed, or general interest rates rises that we've seen starting to be priced," said Shaun Osborne, chief currency strategist at TD Securities in Toronto. (Additional reporting by Lucia Mutikani; Editing by Diane Craft)

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