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Thursday December 8, 2005 - 22:06:09 GMT

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Forex: Dollar Slides as Weather Cools

DailyFX Fundamentals 12-08-05

By Kathy Lien, Chief Strategist of

- Dollar Slides as Weather Cools
- Pound Rallies after BoE Leaves Rates Unchanged
- Yen Rebounds on Hawkish Comments from Fukui

US Dollar

Watching the price action in the dollar over the past six days has been very similar to watching a child on a see-saw – two days of losses reversed by one day of gains. There was little to drive the weakness in the dollar today aside from a larger than expected jobless claims report. Initially predicted to dip to 318k from an upwardly revised 321k, claims actually increased to 327k. Although it may be tempting to call the latest move in the EUR/USD a bottom, especially since we reported this morning that our FXCM Speculative Sentiment Index flipped into net short territory, until we get a break of the 11/28 high at 1.1903, it may still be too early to confirm that we are seeing one. With the Northeast expected to be blanketed by yet another snow storm, we are watching the weather channel just as closely that we are watching the quote screen. Oil prices have rallied back above $60 a barrel, which is adding pressure on the dollar at the moment. Gold prices rose for the sixth consecutive day, coming just shy of the $520 mark. Today’s themes are expected to resonate into the next 24 hours, especially since the University of Michigan consumer confidence survey and wholesale inventories are the only pieces of data due out for release from the US tomorrow, neither of which is particularly market moving. Looking ahead to next week however, the story is very different. Not only do we have the Federal Reserve monetary policy meeting, but also retail sales, the trade balance, CPI, industrial production, Philly Fed and the Treasury International Capital flow report. Therefore it would not be particularly surprising to see any breakouts or attempt to create a breakout extend into the following week.


The Euro is crawling back and we are watching very closely for a turnaround. Conflicting comments from various officials at the European Central Bank suggests to us that even though most members of the ECB may be hawkish, they are choosing their words very carefully in fear of saying anything that could cause their currency to shoot higher. In effect, they are trying to manage both inflation and interest rate expectations at the same time. They know all two clearly that their own recovery has been spurred by weakness in their currency. Therefore they want to tread very carefully to make sure that they do not jeopardize this stimulus. Comments from ECB member Bini Smaghi was the real culprit for the pop higher. Earlier in the day, he hinted that more rate hikes were to come, but later retracted his comment. In contrast, ECB members Weber, Issing and Hurley were in concerted agreement that the ECB will not follow-up their latest rate hike with a series hikes. Even so, it is clear that the central bank is hawkish, but it seems that the next move may not be till the latter part of the first quarter. Meanwhile the only piece of Eurozone economic data released today was German industrial production, which accelerated by 1.1 percent, the second consecutive monthly rise. The rebound was expected for the most part given the strong October PMI report. According to the November PMI report released recently, last month’s performance should have been a touch weaker.

British Pound

To the chagrin of Pound bears, Bank of England officials kept the repurchase rate at 4.5 percent, as inflationary pressures remain persistent and consumer demand lags in the economy. Citing the 37 percent rise in energy prices as the main culprit, policy officials remain wary of a potential surge in wages and consumer prices if a looser policy was applied, justifiably so. A rate cut decision would ultimately bolster consumer demand in the short term as the cost of money has now decreased, prompting further domestic spending. However, with the surge in demand, prices would eventually have to rise. This would occur at the producer level as well as the consumer level, leading to higher wages. All in all, more money floating in the economy would chase smaller supply of goods. With a steady rate at 4.5 percent, policy officials can maintain the current environment, sacrificing the short benefits of a rate reduction while maintaining the longer term perspective. Seeing the inflationary environment as only temporary, Governor Mervyn King stated that consumer spending looks to return stronger in 2006. The comments are inline with the most recent quarterly bulletin by the central bank that predicted inflation to dip below their 2 percent benchmark in the new year.

Japanese Yen

Yen bulls dominated the session as comments made by Bank of Japan Governor Toshihiko Fukui sparked expectations of near term rate hikes for the Japanese economy. Although agreeing with earlier statements made by Prime Minister Junichiro Koizumi of a continuance in looser monetary policy, the central bank governor hinted at heavy consideration next year by policy officials as deflationary conditions may end. Bolstering the notion were economic reports released in the overnight ahead of tonight’s widely anticipated gross domestic product report. Reported earlier, Japanese machine orders rose 4.8 percent. Although regarded as a volatile measure, the figure still suggests that export demand is supported in the world’s second largest economy. The current economic outlook according to the Eco Watchers survey additionally lends to optimism as it posted an actual reading of 52.9, a rise against the previous month’s figure of 50.7. Coupled with recent household spending data and buoyed capital investment, there is no reason to doubt that central bankers will have to consider a tighter policy regime next year as the economy emerges out of a prolonged recessionary period, leaner and more efficient.


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