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Wednesday July 14, 2004 - 22:55:40 GMT -

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US Retail Sales Fuels Dollar Sell Off

DailyFX Forex Fundamentals 07-14-04

By Kathy Lien, Chief Currency Strategist of FXCM

• Advance US Retail Sales Fall A More Than Expected 1.1%
• UK Unemployment Rate Dips To 30-Year Low
• Japanese Consumer Confidence Declines

After yesterday’s sell off in the euro, the pair resumed its broad uptrend in the beginning of the London trading session. Aside from the weaker US retail sales report, also contributing to the upward pressure on the euro, were comments made by European Central Bank Chief Economist Otmar Issing. In an interview with Japan’s Nihon Keizai newspaper, Issing indicated that the central bank is concerned about rising prices and may have to consider raising interest rates this year. Without doubt, inflation is a global concern. Italy released their consumer price index this morning. CPI increased 0.2% on a monthly basis and 2.4% yoy. This contrasts to the slower German and French consumer price inflation reports released earlier this week. Prices for leisure products, housing water and electricity increased on a monthly basis in June.

The dollar sold off following the weaker US retail sales report. The headline retail sales number for the month of June declined a more than expected 1.1%, while retail sales less autos declined 0.2%, compared to expectations for a 0.2% rise. This is the biggest decline in 16 months. Consumer consumption is exceptionally important because it represents two-thirds of GDP. Clearly, spending on autos has decreased significantly, but department store sales also declined. Higher oil prices in May have forced consumers to be more conservative with their purchases. Although the weaker retail sales report may force the Federal Reserve to be more “measured” with future interest rate hikes, fundamentals still remain in place for an overall recovery and today’s report is unlikely to be reflective of an end to recent growth. Import prices unexpectedly declined for the first time in 8 months, reflecting a decline in oil prices. Tomorrow, we are expecting more inflation data (PPI) as well as jobless claims, business inventories and the Empire State manufacturing survey.

UK labor market data preoccupied traders’ minds during the early London session. Unemployment claims fell by 9,600, about 1,700 more than expected, bringing unemployment to a 29 year low of 2.7%. The report served as another confirmation of the UK labor market’s healthy condition as the number of claims filed continued the decline that began in June 2003. As inflation around the world continues to be closely monitored, the market was particularly focused on the average earnings data released alongside the unemployment numbers. The expected 4.5% in the three months to May yoy increase was slightly above the actual 4.3% rise announced, unchanged from the previous release. This is the fastest pace of growth in 2 years. However since inflation continues to be the market’s core focus, the disappointment to expectations on wage report sent the British pound diving 70 pips as it completely ignored the better labor market report. As a reminder, yesterday morning consumer prices were reported to have increased 1.6% yoy in June from 1.5% yoy in May. This marked the fastest growth of the annualized rate of inflation since March 2003. These reports have continued to feed expectations that inflation will rise above the Bank of England’s 2% target in 2005. While recent surges in the price of oil have contributed to increases in consumer prices, they seem to have had a limited effect on earnings. Earlier in the week, it was also reported by the Office of the Deputy Prime Minister that housing prices continue to rise. In the US session, the pound dollar managed to recoup some of its losses on the back of the weaker US retail sales report.

Whipsaw action in USDJPY today as the news of UFJ Banking Group holding merger talks with Mitsubishi Tokyo Financial Group spurred strong demand for the Japanese yen. A merger would signal to the market that the reorganization of Japan’s financial industry has finally moved to full recovery as traders speculated that the proposed UFJ/Mitsubishi merger would accelerate the disposal of bad-loan portfolios and strengthen the combined entity. Corporate bankruptcies fell 21.9% yoy in the month of June, which further confirms that we are seeing a recovery in Japan’s bad-loans. If the merger plan materializes, Japan's four mega banking groups will be reorganized into three. The merged group of UFJ and Mitsubishi Tokyo would become the world's largest in terms of assets exceeding Citigroup’s $1.2 trillion asset base. Buying of the yen turned out to be short-lived however, as soon as the FSA noted that it has not been informed of the merger. The yen was hurt further by the results of the June Consumer Confidence survey, which registered at 45.1 versus 49 expected. Japanese consumers were concerned about future income growth and employment opportunities -- a sign that could put a dent on the latest Japanese economic recovery.


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