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Forex - Lack of Buyers for the Dollar Weakens the Punch of Strong US Data

DailyFX Fundamentals 12-28-06

By Kathy Lien, Chief Strategist of

• Lack of Buyers for the Dollar Weakens the Punch of Strong US Data
• Euro Rallies on Hawkish ECB Comments and Drop in French Unemployment
• Strong Housing Data Sends the British Pound Higher

US Dollar - Despite overwhelmingly strong US data, the dollar was unable to end the day in positive territory. After having rallied for most of December, there seems to be no more buyers left in the market. The sharp rally after the 10:00am data quickly lost steam and the dollar quietly gave back those gains for the remainder of the day. All three of the key releases that we were expecting this morning beat expectations. Consumer confidence jumped from an upwardly revised 105.3 to 109, the strongest level since April 2006. With the stock market rallying to record highs on a near daily basis in early December and oil prices remaining low due to the warm weather, consumers were optimistic about current conditions as well as the conditions for the months ahead. This should help relieve some of the market's concerns about a weak holiday spending season and keep the EUR/USD trapped within the 1.3050 - 1.3300 trading range. Housing market data was also extremely encouraging. Existing home sales increased 0.6 percent in the month of November by 6.28 million, which was the strongest percentage gain since Feb. Taken together with yesterday's rise in new home sales, we are seeing signs of a potential bottom in the housing market. The manufacturing sector seems to be doing better with the Chicago PMI report rebounding in the month of December after dipping into contractionary territory the prior month. The expansionary conditions in the Chicago region conflicts with the negative Philly Fed number reported last week. This suggests that we may only see a mild moderation in next week’s National ISM survey. This morning’s reports will most likely keep the Federal Reserve on hold for the first quarter of 2007. With another three day weekend ahead of us, there is no more data due for release.

Euro - Hawkish comments from the European Central Bank has helped the Euro retain its bid today. Council member Mersch repeated the central bank’s overall view that interest rates remain low historically and monetary policy remains accommodative despite five interest rate hikes this year. This coincides with the hawkish comments that ECB President Trichet made shortly after their December hike and suggests that we are on track for another quarter point rise in March. French unemployment data (which was released early) came out stronger than expected in the month of November. The unemployment rate fell to 8.7 percent, the lowest level in five years thanks to the 26,000 drop in claimants. Money supply growth will be the key figure that we are watching tomorrow because it is an inflationary indicator. Should money supply grow as quickly as the market expects, it will validate the need for more rate interest hikes and support a further rally in the EUR/USD. Meanwhile Switzerland will be releasing their KoF leading indicator report. The drop in the UBS consumption index earlier this week suggests that leading indicators will decline in the month of December.

British Pound - The British pound is higher today thanks to stronger growth in house prices during the month of December. According to the Nationwide Building Society, house prices grew for the tenth straight month by 1.2 percent in December, bringing the annualized pace of growth up to 10.5 percent, which is the fastest since January 2005. When it comes to UK housing market data, upside surprises are no longer surprises. The housing market has long been the strongest aspect of the UK economy and continues to provide support for further growth in consumer spending. In fact, holiday sales are reported to have been very strong this season which gives the Bank of England a good reason to consider another interest rate hike early next year. Housing market reports are due out tomorrow, which should continue to show strength. The GfK consumer confidence report was rescheduled for mid next week.

Japanese Yen - Yesterday the Japanese Yen rallied because a news agency suggested that the Bank of Japan could be weighing a 25 versus 50bp interest rate hike early next year. We thought that the odds for a 50bp hike was next to zero and that belief was confirmed by Bank of Japan Governor Fukui who said today that rate hikes will come “slowly” and will depend on incoming economic data. Unfortunately last night’s reports did little to help the argument of yen bulls. Industrial production grew by a weaker than expected 0.7 percent last month while labor cash earnings fell by 0.2 percent. Despite a 4.8 percent rise in overtime hours worked, wages still dropped which highlights the gravity of the situation. Despite growing corporate earnings, employers have done little to pass on some of that wealth to their employees. Instead, basic wages fell by 0.6 percent year over year. Weak wage growth is Japan’s biggest problem as it caps consumer spending. Meanwhile China has recently been very bearish about the outlook for the US dollar. A few weeks ago, the head of the Chinese central bank talked about how unattractive it is to hold US dollars. Today, he said that interest rates cuts by the Federal reserve should reinforce the dollar’s weakening trend and the strengthening trend of the Euro and Chinese Yuan. As one of the most active central banks in the market, if they think that the EUR/USD is set to strengthen, chances are they are putting their money behind their views.


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