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Monday May 16, 2005 - 21:00:19 GMT

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Forex: Pound Gets Pounded By More Weak News

DailyFX Fundamentals 05-15-05

By Kathy Lien, Chief Strategist

· Pound Gets Pounded By More Weak News
· Dollar Gives Back Gains On Waning Asian Central Bank Demand For Treasuries
· Yen Rises In Anticipation of Strong GDP Growth

US Dollar

Even though the dollar barely budged, today was not a good day in terms of US economic data with the Empire State Manufacturing survey plunging into negative territory and the Treasury International Capital flow (TIC) report falling far short of expectations. Foreign holdings of US treasuries increased a measly $45.7Bln in March, compared to $84.1bln in February. This is less than the $55bln needed to fund the same month's trade deficit and also less than the most pessimistic analyst estimate posted on Bloomberg. Taking a deeper look at the details of the report and we see that both China AND Japan were net sellers of US Treasuries in March. Japan has sold US Treasuries for 3 out of the past 5 months while Chinese demand is simply waning. Regardless of what Japan and China tell us about revaluation or whether they will ever sell US dollars or Treasuries, the proof is that their appetite for dollar denominated assets have fallen significantly. The Caribbean, the home of hedge funds, has now become the world’s third largest holder of US treasuries, outpacing the UK. Most of this is due to flight to safety by private investors following the weaker data that we saw in the first quarter. In terms of the Empire State survey, this is the first contraction that we have seen in 2 years and puts to question whether the strength in the reports that we have seen over the last two weeks will be sustained in the months ahead. Although the NY manufacturing survey is one of the most volatile reports and NY only comprises 5 percent of total US manufacturing, it is still a piece of data that is closely watched especially for its directional change. The only piece of positive news that we received was the NAHB survey, which rose 3 points to 70. Overall, the US housing market has remained fairly resilient. Tomorrow should be another busy day with producer prices and industrial production scheduled for release.


French and German markets were closed today which could explain some of the quieter trading during the US morning session. The French opinion polls that we talked about in the Market Brief continued to remain the center of attention. The threat of a rejection by not only France but also Holland and Belgium downplayed any optimism that would have come from Russia’s Paris Club debt repayment. With weak economic data and high levels of unemployment, investors really need a “Yes” vote to drum up some optimism in the euro. This morning’s final Italian inflation numbers confirms that inflation fell in the month of April on a monthly basis but remained relatively steady on an annualized basis. We continue to believe that this should be a more global trend going forward and that the recent retracement in oil prices will help relieve inflationary pressures for countries worldwide.

British Pound

Another day, another sharp dive in the British pound. Today marks the seventh consecutive trading day of losses in the pound as negative news continues to pile onto the Queen’s currency. According to property website Rightmove, house sales are at a 10 year low and house price inflation fell 4.9% y/y in April, which is the lowest annualized rate of growth since 2002. Rightmove forecasts an even further slide in the housing market this year, which suggests that one of the remaining pillars of the UK economy is beginning to really crumble this time around. Speculation of possible hedge fund collapses in the UK has also weighed on the pound. An article in the London Times talks about the stresses being felt at many European and America hedge funds after four months of deteriorating results. The article says that GLG, a hedge fund started in 1995 by a group of former Goldman Sachs bankers, has in recent weeks had demands for more than $500m (£270m) from investors wanting to pull out of its $4 billion market-neutral fund. While GLG reported that one of its key funds was down 5.2%, a Man Group scheme suffered a 3.1% decline and Madrid-based Vega told investors one of its leading funds was down 6%. Most of these hedge funds are suffering from exposure to GM and Ford whose bonds were recently downgraded to junk bond status by Standard and Poors rating agency.

Japanese Yen

The Japanese yen finally gained strength against the dollar following the US report that the government was a net seller of Treasuries in the month of March. Economic data released from the Land of the Rising Sun was mostly mixed with the current account surplus shrinking in March and consumer confidence rising in the month of April. Japanese GDP is expected to rebound strongly in the first quarter rising 0.6% on a monthly basis and 2.5% on an annualized basis. Although most of the increase was concentrated in January, consumer consumption and exports are both predicted to rise significantly in the first quarter. Looking over to China, the only major news is the recent backlash from the Asian Giant on the US for their plans to re-impose textile quotas. China reserved the option to retaliate and said that the re-imposition of the quotas throws the “the basic spirit of free trade upheld by the WTO” out the door.


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