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Friday November 27, 2009 - 16:25:12 GMT
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FX Briefing - Dubai’s debt problems shock markets

FX Briefing 27 November 2009


Fed minutes reveal relaxed attitude towards dollar weakness

Dollar plunges to new lows against euro, yen and Swiss franc

Dubai requests debt standstill for state holding company, dollar strengthens

ECB embarks on exit, December 12-month tender could be the last


Dubai’s debt problems shock markets

After lacking direction for several weeks, the dollar fell to new lows against various currencies

this week. During the course of the week, EURUSD firmed to 1.5144 temporarily, a 15-month

high, only to plummet again towards the end of the week. The Swiss franc breached parity (i.e.

the 1:1 level) with the dollar, and the dollar tumbled to 84.82 against the yen, its lowest level since 1995.


The reasons for the dollar’s plunge to new lows are diverse and complicated, however. The dollar’s current weakness is basically connected with a more optimistic assessment of the economic outlook, which is increasing risk appetite. This tendency is spreading as market participants are observing that, compared to the ECB in particular, the US Fed seems to be showing little inclination to end its ultra-loose monetary policy. The ample supply of cheap liquidity is also boosting carry trades, whereby cheap US dollars are used to fund riskier assets world-wide.


Presumably the minutes of the FOMC meeting of 3-4 November prompted the euro’s jump over 1.50 against the dollar. At this meeting, the council members discussed the dollar’s exchange rates, which is most unusual. They described the dollar’s recent decline as “orderly” and interpreted it as the result of a decline in safe haven demand. Many market participants are worried that rising government debt and the loose monetary policy could erode the value of the dollar, but the Open Market Committee does not share this view. The FOMC even seems to be quite amenable to the fact that the weaker dollar is supporting US exports (this is also pointed out in the minutes).


From Thursday, however, EUR-USD tumbled. Towards the end of the week, the euro was back at around 1.49 again. Simultaneously, the dollar strengthened quite significantly against most major currencies, including emerging market and commodity currencies.


This movement was triggered by reports that Dubai World, a government-controlled holding company active primarily in the property and project development sectors and as a port operator, had requested a debt standstill and was seeking to restructure its debts.


Although the total volume of the liabilities directly affected, $59 billion, is not all that high, bond markets reacted sharply to the news, because Dubai’s debt problems (S&P are checking whether it is in fact a default) highlight the high credit risks also slumbering in emerging markets. Particularly in the last few months, investors’ confidence in emerging markets has grown, resulting  in an increase in capital inflows.


The problems in Dubai, where it had been assumed that the government could fend off risks, undermine this confidence. It is not out of the question that risk appetite could wane again and that liquidity in the emerging markets could dry up, as it did after the Iceland crisis. Just before the end of the year, market participants are unlikely to want to put the year’s gains at risk unnecessarily.


Equity markets in Asia and Europe slipped, government bonds are exceptionally strong. CDS

spreads for Arabic countries widened, particularly for Abu Dhabi. Because of the long Thanksgiving weekend, however, it is uncertain how sharp the reaction in the US will in fact be.


Next Thursday, the ECB governing council is holding its next meeting. The macroeconomic

projections, which will be released at the press conference, are likely to show an upward revision of the growth forecast for 2010. Otherwise, there will probably only be slight amendments to the September estimates.


Market participants are likely to focus on the exit from unconventional measures. In the last few weeks, several ECB representatives had hinted that the start of an exit was imminent. It appears to be relatively certain that the ECB will discontinue its 12-month tender next year; the Council is discussing whether to offer the December tender at the main refinancing rate as it has done up to now. As an alternative option, it is considering calculating the tender rate on average refinancing costs during the maturity period. This would be complicated and presumably prohibitive. Furthermore, it would suggest restrictive interest rates.


Whether further restrictions to long-term refinancing operations for 2010 will be announced

remains to be seen. In the past months, however, demand for these tenders has dropped significantly, so that curtailing the offer would not cause a serious problem. On the other hand, it would not be a problem either to continue to offer the 3 or 6-month tenders for the time being.

Stephan Rieke +49 69 718-4114


Economics Department

+49 69 718-3642

[email protected]

Foreign Exchange Trading

[email protected]

Jörg Isselmann

+49 69 718-2695

Matthias Grabbe / Klaus Näfken

+49 69 718-2688


This report has been prepared by BHF-BANK Aktiengesellschaft on behalf of itself and its affiliated companies (together "BHF-BANK Group") solely for the information of its clients. The information and opinions in this document are based on sources believed to be reliable and acting in good faith, but no representation or warranty, express or implied, is made by any member of the BHF-BANK Group as to their accuracy, completeness or correctness. Opinions and recommendations are given in good faith but without legal responsibility and are subject to change without notice. The information does not constitute advice or personal recommendation, for which the duty of suitability would be owed, but may facilitate your own investment decision. Moreover, you should seek your own advice as to the suitability of an investment matter mentioned herein. Investors are reminded that the price of securities and the income from them can go down as well as up and that the past performance of an investment or a market is not necessarily indicative for future results. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete, and this document is not, and should not be construed as, an offer to sell or solicitation of any offer to buy the securities mentioned in it. BHF-BANK Group and its officers and employees may have a long or short position or engage in transactions in any of the securities mentioned in this document, or in any related securities. This publication must not be distributed in the United States.

© 2007 BHF-BANK Aktiengesellschaft

All rights reserved. Please mention source when quoting from it.



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