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Friday December 1, 2006 - 18:50:21 GMT
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FX Briefing: Record high within reach

FX Briefing 1 December 2006
Highlights
• Growth euphoria boosts euro; economic concerns burden dollar
• US economy has a bad start to the fourth quarter
• What signals will the ECB give for next year?

Record high within reach
The dollar has kept on falling. Having overcome major resistance points at the end of last week, the euro continued to surge against the dollar this week and is now above 1.32. Thus the euro’s record high of 1.3666 at the turn of the year 2004/2005 now seems to be within reach again – particularly as cable exceeded its record high of the end of 2004 this week. The yen climbed further too, but it is still miles away from its peak of 101.68, which it also reached at the turn of the year 2004/2005. The euro has been rising steadily against the yen since the middle of 2005 and reached 153.46 this week – another new record.

Currently, growth euphoria in Europe and concern about the US economy are dominating the markets, which explains the dollar’s weakness on the one hand and the euro’s strength on the other. This was very noticeable again this week: US durable goods orders were disappointing, as was the Chicago PMI, which fell below the expansion threshold of 50 for the first time since the middle of 2003. A decrease in orders had been expected due to the decline in aircraft orders, but other orders, particularly non-defense new orders for capital goods, fell way behind expectations too. Thus the US economy had quite a weak start to the fourth quarter on the investment side. Private consumption seems to be losing momentum as well: this is indicated for example by the surprising drop in consumer confidence in November. In view of all this, we are not expecting US growth to rise much above 2% in Q4. It would thus be weaker than in the previous quarter, which was revised upwards, however, from 1.6 to 2.2%.

After a long period of silence, the US Federal Reserve chairman Ben Bernanke expressed confidence this week that growth would be close to potential again in the forthcoming quarters. For this reason, however, he warned that inflation risks were still primarily to the upside. However, this did not seem to have much impact on the markets: the yield on 10-year Treasuries has fallen to under 4.5% and is thus more than 75 bp below the federal funds rate. It looks as though the markets are convinced that the next interest rate step will be a cut.

In Europe, on the other hand, economic indicators are signalling a sustained favourable development. The German labour market figures released this week were surprisingly positive: unemployment has fallen below 4 million again for the first time since 2002. Eurozone sentiment indicators are indicating a sustained upward development too. Against this backdrop, market participants are taking the ECB’s stereotype warnings about inflation risks in the eurozone very seriously. In its latest forecast, the EU Commission estimates that growth will remain high in the eurozone over the next three quarters. If the ECB shares this view, it will probably revise its growth projections for next year slightly upwards. However, the inflation projection needs to be revised downwards. The inflation rate in the eurozone rose again in November from 1.6% to 1.8%, but this is still significantly below the figures on which the ECB had based its September forecast. We are now expecting the average inflation rate next year to be well below 2%.

Next week, the ECB will publish its new projections. In our view, the expected interest rate hike to 3.5% will be the last step taken by the ECB for the time being, especially as growth risks for the eurozone are increasing due to the slowing US economy and the weak dollar.

It seems more and more unlikely that the Bank of Japan will raise interest rates in the foreseeable future. In any case, the latest economic indicators have been mixed, and inflation rates have remained below expectations too. Thus the environment should continue to be favourable for carry trades.

Uwe Angenendt +49 69 718-3648
Economics Department
+49 69 718-3642
volkswirtschaft@bhf-bank.com
Foreign Exchange Trading
devisenhandel@bhf-bank.com
Jörg Isselmann
+49 69 718-2695
Matthias Grabbe / Klaus Näfken
+49 69 718-2688

This report has been prepared by BHF-BANK Aktiengesellschaft on behalf of itself and its affiliated companies (together "BHF-BANK Group") solely for the information of its clients. The information and opinions in this document are based on sources believed to be reliable and acting in good faith, but no representation or warranty, express or implied, is made by any member of the BHF-BANK Group as to their accuracy, completeness or correctness. Opinions and recommendations are given in good faith but without legal responsibility and are subject to change without notice. The information does not constitute advice or personal recommendation, for which the duty of suitability would be owed, but may facilitate your own investment decision. Moreover, you should seek your own advice as to the suitability of an investment matter mentioned herein. Investors are reminded that the price of securities and the income from them can go down as well as up and that the past performance of an investment or a market is not necessarily indicative for future results. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete, and this document is not, and should not be construed as, an offer to sell or solicitation of any offer to buy the securities mentioned in it. BHF-BANK Group and its officers and employees may have a long or short position or engage in transactions in any of the securities mentioned in this document, or in any related securities. This publication must not be distributed in the United States.
© 2005 BHF-BANK Aktiengesellschaft
All rights reserved. Please mention source when quoting from it.


 

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