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Monday June 20, 2005 - 21:27:22 GMT
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Forex: Higher Oil Prices Could Keep Fed and ECB Vigilant

DailyFX Fundamentals 06-20-05

By Kathy Lien, Chief Strategist of www.dailyfx.com

- Higher Oil Prices Could Keep Fed and ECB Vigilant
- EU Summit Crisis Widens Dollar – US Data Gap
- Dollar Yen Reverses Previous Losses

US Dollar

We are starting the week off with a stronger US dollar, weaker Euro, higher gold and oil prices. Dollar bears must find it frustrating that the greenback is holding onto its strength even in the face of continually weaker economic data. It is basically one after the next when it comes to bad news for the US. Today alone, we had oil prices rise to a new record high and leading indicators fall for four out of the past five months. The market remains transfixed on the developments across the Atlantic, choosing instead to completely ignore the developments here in the US. Tomorrow we have an even more barren economic calendar than we had today. In fact, this week we have a very light economic calendar overall, which means that everyone will be looking forward to next week’s FOMC meeting on June 29/30. It also means that we will soon be entering the “quiet period” where Fed officials are prevented from making any speeches or comments related to the economy or monetary policy. Even though economic data has been very weak and both producer and consumer prices came in lower, the renewed rise in oil could force the Fed to remain vigilant. The probability of a quarter point increase at the end of this month is still at 100 percent. This means that the actual move by the Fed will not be most important and instead the limelight will be shining right on the statement that accompanies the decision. Meanwhile October Fed Fund futures contracts are trading at 3.625% suggesting that with three meetings between now and October, the futures contracts appear to be pricing in the possibility of a pause by the FOMC.

Euro

Everyone’s attention this weekend was centered upon the developments across the Atlantic at the EU Summit. Even though no one expected a solution to come out of the meeting, they did expect a commitment by EU leaders to work towards a new constitution. However, what actually unfolded at the Summit was completely appalling. The UK and France spent the whole time fighting over rebates and agricultural subsidies and not the future on the European Union, causing the euro to be punished at the London open. Our sentiment is best portrayed by the comment from EU President Junker, who said “When I heard one after the other, all the new member countries, each poorer than the other, say that in the interest of reaching an agreement they would be ready to renounce some of their financial demands, I was ashamed.” It indeed should be quite embarrassing for the rich nations to be fighting over money when the poorer ones are willing to give up some of their own incentives to push the European Union forward. The euro is also sliding on an article in Reuters postulating that some ECB officials may be considering a rate cut. With oil prices skyrocketing and the euro a lot weaker than it was the last time oil shot higher, the Eurozone will not be receiving the same offsetting effects that it benefited from a few months ago. This will give the ECB less of an incentive to lower rates and instead will keep them firmly at neutral.

British Pound

Traders took the opportunity today to reestablish short positions in the British pound with little fundamental data to draw from during the session. Included in the plat du jour were public finance figures, money supply data and the Rightmove housing price report. Soaring from previous readings, public sector borrowing vaulted higher, 8.7 billion pounds compared to April’s 1.3 billion. The considerable increase in government spending looked to be reflected in a rising money supply for the month, increasing 1.7 percent. With larger amounts of cash chasing a finite amount of goods, economists are concerned of underlying inflation created by the increase. Ultimately, this may spark speculation that the widely anticipated interest rate cut considerations may not be as readily forthcoming as earlier expected. Additionally, further slowdowns in the housing price sector were revealed through Sunday’s print of the housing survey. According to the report, rising residential valuations slowed in the month, climbing 2.4 percent compared with a 4.9 percent increase in the previous period, further bolstering policy maker’s earlier decision.

Japanese Yen

Pessimism mounted for the world’s second largest economy, reversing the past four sessions of yen strength, as further declines were seen in the convenience store sales figures for the month of May. Plummeting 1.9 percent lower, the decline is seen as the 10th consecutive drop and suggestive of continued downward momentum from lackluster consumer demand. This is of particular interest in light of April average monthly salaries rising 0.3 percent higher with a subsequent dip in the unemployment rate to 4.4 percent. Unfortunately, furthering the string of rather disappointing economic data for the region, the economy may now be ever more reliant on the capital expenditure aspect of overall growth as deflationary pressures continue to plague the export dependant country. With that said, market participants will now look to focus their attention on tomorrow’s merchandise trade balance data. Widely anticipated to show a rise in the overall surplus, any declines would add to the increasingly bearish overtones currently occupying market sentiment.

 

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