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Tuesday January 18, 2005 - 21:48:42 GMT -

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TIC Data Shocks Everything But The Dollar

Daily FX Fundamentals 01-18-05

By Kathy Lien, Chief Strategist of

· TIC Data Shocks Everything But The Dollar
· Comments From Fed Presidents Becoming Increasingly Hawkish
· Pound Bounces on Unexpected Improvements In UK Data


Today’s US Treasury International Capital flow data indicates that the weaker dollar has indeed increased the attractiveness of dollar-denominated assets. To the surprise of nearly everyone in the markets, foreigners purchased $81 billion worth of US securities during the month of November. Yet, this exceptionally impressive number did little for the US dollar. The EURUSD dipped momentarily below the psychologically important 1.30 level only to rebound shortly thereafter. The price action suggests that there is still a significant amount of bearish dollar sentiment remaining in the markets. Strong stock market performance during the month of November helped motivate international investors to snap up US equities. The corresponding rally in the EURUSD also increased the value of US stocks, prompting foreigners to increase purchases of corporate stocks by $11 billion. This means that for the time being, the US has no problem funding its deficit over the short term. As a result, the EURUSD will not see the support that was hoped for from renewed concern about the US deficit. At this point, rallies could remain limited. Meanwhile Austrian Finance Minister Grasser expressed what is probably the collective view of EU finance ministers. In reference to the EURUSD, he said that current “developments are quite OK.” The recent correction of the euro comes to the relief of many parties across the Atlantic.


Interestingly enough, we are beginning to see a widespread shift in Fed sentiment that could be particularly beneficial for the US dollar. If you recall, last week, Fed President Poole said that the phrase “measured pace” would have to be taken out of the FOMC statement at some point. Today, Fed President Pianalto recommended moving interest rates to a level that is “no longer stimulative” before it is too late. Fed President Santomero suggested that the Fed could be a bit more aggressive while Stern echoed the group’s optimism with regards to the US economic outlook. The overall hawkish tone of the Fed should not be completely written off especially ahead of the February FOMC meeting. A shift to a more hawkish tone in the statement, which seems to be the direction that the Fed is moving towards, could spur speculation for a 50bp rate hike over the next few months. Meanwhile, not all data from the US was positive today. Manufacturing activity in the NY region slowed in January with the Empire State manufacturing index falling from 27.1 to 20.1. The NAHB index of homebuilder optimism also dipped modestly.


Unexpected improvements in UK economic data helped to bolster the British pound. Inflation increased from 1.5% to 1.6% during the month of December, which is the highest level that we have seen since June. Increases in the price of household goods and transport services helped to offset holiday discounting on clothing and footwear. Meanwhile, house prices as measured by the RICS house price balance improved from –48 to –37. The market had actually expected the report to reflect a continued deterioration in the housing market. Instead, it echoed yesterday’s more optimistic Rightmove report. However, the rally has been impressive since these two reports are insufficient to shift the outlook for monetary policy. The market still expects the Bank of England to remain on hold for the remainder of this year.


Comments from an unnamed source at the Ministry of Finance have kept USDJPY afloat today. According to Reuters, the source said that “we are ready to conduct solo intervention,” if needed. However, as we mentioned yesterday, the G7 meeting is back in play next month. If you recall, the Bank of Japan tends to refrain from intervening ahead of G7 meetings in fear of excessive criticism from their global counterparts. Without intervention, the Japanese yen has been sensitive to the possibility that China may waver in their commitment to a pegged currency. Meanwhile, the lackluster purchase of US Treasuries by Japan during the month of November is also weighing on USDJPY. If you recall Japan was a net seller of US Treasuries during the month of September and October. In November, they were a net buyer, but only $700 million, which is less than a quarter of China’s purchases in the same period. This provides increasing evidence that Japan may no longer see US Treasuries as a particularly attractive asset class to own. As the largest foreign holder of US government securities, if they begin to dump their holdings of US Treasuries more aggressively, USDJPY could easily slide below 100.


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