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Wednesday August 24, 2005 - 21:25:14 GMT

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Dollar Takes a Nose-dive on Durable Goods and Oil

DailyFX Fundamentals 08-24-05

By Kathy Lien, Chief Strategist of

· Dollar Takes a Nose-dive on Durable Goods and Oil
· British Pound Holds Steady Despite Weaker CBI Report
· Koizumi Announces Plan to Step Down in 2006

US Dollar

The market had been waiting for the US durable goods orders all week and today’s release confirmed our suspicion that things aren’t that rosy here in the US. The dollar took a nose-dive when orders for durable goods plummeted –4.9% in the month of July, with orders excluding the transportation component also falling an equally disappointing -3.20%. This was actually the worst fall in durable goods orders since January of 2004. The weaker number should definitely push back growth expectations and notch lower estimates for third quarter GDP growth. The other big news in the market today was the fresh high in crude oil prices. Storms brewing down in the Gulf and the eighth consecutive week of falling petrol supplies has traders worried. Even though the storm is only being classified as a Tropical Storm, August and September tend to be the heaviest hurricane season, which means the worse may have yet to come. The pinch of higher oil prices is becoming more and more widespread. We already know that gas prices are hitting roadside restaurants, sales at Wal-Mart, airline profitability, but on an even more grass roots level, we are seeing a lot more local businesses add surcharges for deliveries or use more foot or biked based alternatives. Even though drivers are treating the rise in oil that we have seen so far as temporary, businesses are not taking as much risk and are actually coming up with other options in case oil prices hit $80 or $100 a barrel. The one sliver of good news that we received today was new homes sales, which rose 6.5% in the month of July. Even though we continue to caution about a possible slowdown in the housing market, the data is indicating otherwise. However, the longer the housing market continues to return such impressive numbers, the deeper the potential slide - affordability will eventually become an issue.

Another day, another piece of good news from the Eurozone. Industrial orders for the region rose 3.1% in the month of June, much stronger than the consensus forecast for a 2.1% rise. With the encouraging data that we have been seeing over the past few weeks, we expect the German IFO index to also show signs of solid improvement. Business and consumer confidence is gradually rising as domestic demand begins to pickup. It still remains to be seen whether the current trend can continue, but for the time being, we are basking in the region’s renewed growth. With the outlook for the dollar looking more and more dismal, the improving outlook in the Eurozone is certainly supporting further gains in the EURUSD.

British Pound

The British pound ended the trading session virtually unchanged against the dollar. The currency pair managed to recoup most of the losses that it made following the much weaker than expected CBI manufacturing survey. According to the survey, the index of manufacturing orders fell from –20 to –26. If that wasn’t bad already, the CBI employers group also cut their economic growth forecasts for 2005 and 2006. They now expect growth to be 1.9% this year and 2.2% next year. This is significantly weaker than the government’s own forecast of 3-3.5% growth and 2.25-2.75% growth even though there have been signs that things may not be that bad over in the UK, the mixed data that we have seen thus far shows that the economy is still very vulnerable. As we currently stand, the next monetary policy decision is still a toss-up. The minutes from the meeting at which the rate cut was made showed that the decision was a very close one. Therefore, the data probably needs to really sway in one direction before the members voting against another rate cut would be tempted to switch camps.

Japanese Yen

The dollar failed to maintain its earlier gains as traders continued to snap up the Japanese Yen on rumors that the Bank of Japan may be ready to raise interest rates soon. If this were true, it would be significantly positive for the Japanese Yen. Speculators have long chosen the Japanese Yen as the primary funding currency for carry trades because of the country’s zero interest rate policy. Even though any move that the Japanese will make will probably be very small, the psychological significance of the move could be much more substantial. In fact, this could be the nudge that investors may be waiting for to cover their short Yen carry trades, or an incentive for other investors to continue snapping up Yen denominated assets. Meanwhile, it was very interesting that the market has not quite gone full force on the coverage of Koizumi’s announcement that he will be stepping down from his job as Prime Minister in September 2006 even if the LDP wins the upcoming elections. Perhaps Koizumi already feels vindicated that his approval ratings have shot higher after he called for a general election on the back of the rejection of the postal privatization bill. Koizumi is one of the longest serving Prime Ministers in Japan and like the politically uncertainty that came on the back of his call for general elections, Koizumi’s departure should bring back some more political uncertainty.


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