Saturday July 24, 2004 - 10:11:12 GMT
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INVESTICA Ltd - www.investica.co.uk
Can the dollar rally be sustained
The dollar's immediate prospects have been improved significantly by Greenspan's relatively tough testimony as there will be a further covering of short dollar positions. The US currency will find it more difficult to secure strong buying interest even with the prospect of a gradual monetary tightening. There will be further concerns over the massive financing requirement and the task of attracting inflows will be made more difficult by any sustained weakness on Wall Street. Greenspan has also raised market expectations and the dollar will, therefore, be vulnerable if the forthcoming data fails to meet these expectations. Overall, medium-term depreciation is still the most likely outcome.
US data releases
Housing starts -8.5% June (+0.4% May)
Jobless claims 339,000 week ending Jul 17 (350,000 prev)
The Euro strengthened to a high of 1.2460 against the dollar on Monday, but the Euro then suffered sharp losses with a dip to a low of 1.2090 on Friday before a marginal recovery.
The US data has been limited over the week and this allowed Fed Chairman Greenspanís congressional appearance to take centre stage. Greenspanís testimony was optimistic over US prospects, expressing confidence that a strong growth was sustainable over the next two years and that the economy was bouncing back after the disappointments seen in the June data.
Greenspan stated that inflation was not a threat, but pledged that the Fed would act to prevent any increase in inflation. The comments on interest rates were slightly more aggressive than expected and Greenspan stated that the risks of increasing interest rates was lower than the risks associated with keeping rates too low. In this context, he stated confidence that the financial sector was well-positioned to cope with higher interest rates. There has been only a slight shift in interest rate expectation with greater confidence over a move in Fed Funds to at least 2.0% by the end of 2004. Any speculation that there would be no increase at the August FOMC meeting has been quashed and US 10-year yields pushed to 20 basis points above Euro. The shift in expectations will offer near-term dollar support, but the impact was magnified by the shorter-term market conditions.
The US currency was boosted to a considerable extent by a covering of short dollar positions. The markets had become overextended in selling dollars and there was a succession of Euro stop-loss selling as the dollar rallied. The dollar will now need to secure buying interest to make further progress. Given the substantial financing requirement, the US currency will still find it difficult to gain durable support. Greenspanís comments have also increased the importance of economic data in August and the dollar will be very vulnerable if the data does not match up with Greenspanís optimistic assessment.
The Wall Street performance will remain a concern, especially with some disappointment over earnings reports. The Dow Jones index dipped below the 10,000 level and the Nasdaq index hit 9-month lows during the week. This performance will maintain the risk of further net equity outflows from the US and will be a negative dollar factor.
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