Tuesday December 21, 2004 - 22:10:34 GMT
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Forex: Dollar Strengthens As Oil Prices Continue to Recede
DailyFX Forex Fundamentals 12-21-04
By Kathy Lien, Chief Strategist of www.dailyfx.com
· Dollar Strengthens As Oil Prices Continue to Recede
· Strong French Consumer Spending Fails To Help Euro Find Support
· Pound Slides As RICS House Price Balance Falls To Lowest Level In 12 Years
The ranges are narrowing in the euro with only a modest sell-off against the dollar today. In the year ahead, Europe will need to come to terms with a stronger euro. Calls for adjustments to the US current account deficit will only continue and Europe will have to learn to spur growth domestically. As the dollar continues to fall and the euro continues to slide, the risk to the export sector will increase, creating a stronger need for Europe to draw down savings and increase consumption. The big problem with the world is that the US consumers spend too much and save too little, while European and Asian consumers are the exact opposite – they save too much and spend too little. This discrepancy has created the huge imbalances that are forcing the dollar lower against the euro and other major currencies. Of course, this is easier said than done yet Germany is already beginning to show signs of improving domestic consumption. With speculative positioning in net short territory, there is a risk of overshooting in the euro next year. The dollar is expected to weaken even further as the problems of 2004 will continue to be problems in 2005. Meanwhile, although French consumer spending increased sharply in the November and the Eurozone trade surplus increased more than expected, weaker consumer confidence in Italy and calls for ECB intervention by the president of the IFO Institute prevented the Euro from rallying.
With no real significant US data on the calendar today, the dollar strengthened marginally against the Swiss franc. Surprisingly, according to the minutes of the November 10 rate hike, the decision to raise rates was not unanimous. Two of the twelve district banks were divided on whether the soft patch was over and if the rise in oil prices has ended. As such, they voted to keep rates unchanged. However, with oil prices receding and generally improving data, the market wrote off the hesitation since there was ample evidence that another rate hike was needed in December. Furthermore, despite the hesitation, we are still on track for gradual rate hikes in 2005. The dollar also found comfort in the retracement in oil prices. Meanwhile, Swiss economic data for the month of November was better than expected, reflecting the marginal improvement that the global economy is experiencing in the fourth quarter as a direct result of the retracement in oil prices. Exports surged 14% yoy, increasing the trade surplus from CHF1.1bilion to CHF1.3billion. However, the data was slightly distorted since it incorporates two additional business days. Producer prices also fell a less than expected 0.1% last month. None of these reports are worthy of fireworks, but certainly provide a bit of optimism on a quiet trading day.
Plummeting during the session, the British pound sold off as disappointing housing data suggested to traders that no further monetary tightening was required by the Bank of England. As a result, a 200-pip decline ensued as investors pared long positions through the $1.94 and $1.93 handles. According the latest Royal Institution of Chartered Surveyors, housing prices cooled to the lowest level since December 1992 in the three months through November. The survey fell for the seventh consecutive decline and reported a drop of 48 percent from a minus 40 in October. As a result, investors are looking for the policy makers to stand pat on interest rates, already raising rates five times since November of 2003 to 4.75 percent. This is surprisingly contrary to speculation last week as a rise in consumer prices lend to the belief that short term rates were expected to rise early in 2005. Nonetheless, exacerbating the decline were comments issued by International Monetary Fund officials of the current U.K. trade deficit and its “implications on the sterling”. Currently widened to a nine month high of 5.3 billion pounds, policy officials may become uneasy, as a ballooning gap tends to erode at economic growth.
With no new economic data for the world's second largest economy, investors turned to a positive equity market in pushing the yen higher. With the Nikkei 225 Stock Average climbing to 1 month highs, many participants speculated on the probability of investors favoring Japanese stocks. According to the Ministry of Finance, in 11 of the past 12 weeks leading up to December 10, international investors were net buyers of $1.9 billion of Japanese equities. This leads many to believe that globally, individuals are expecting the economy to recover from its "soft patch" and expand in 2005. Furthermore, confirming these expectations on the corporate level were the results of last week's quarterly Tankan survey. According to business sentiment, corporate leaders increased their capital spending expectations and are sharing optimism of loftier earnings projections for the coming year.
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