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Friday March 23, 2007 - 15:33:14 GMT
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Forex Market News - FX Briefing 23 March 2007 - USD increasingly vulnerable

FX Briefing 23 March 2007
Highlights
• Fed switches to neutral
• Rising economic risk likely to support yen

USD increasingly vulnerable
Last week the yen had benefited from nervousness in equity markets, triggered by problems at New Century, the second-largest US subprime mortgage lender. However, this effect was temporary: as equity markets stabilised, the yen lost ground again. USD-JPY and EUR-JPY rose by almost 1% to around 118, and 157 respectively. The “usual suspects”, first and foremost the rand, but also the Turkish lira, the New Zealand, Australian and Canadian dollars plus the Mexican peso and the real, rebounded even more strongly. In short: the typical carry trades made a comeback. The pound Sterling benefited from worse-than- expected inflation data. Against this backdrop, even the news that one member of the Bank of England’s monetary policy committee had voted for a rate cut (!) at the last meeting made little impact.

At around 1.33, EUR-USD was still about the same as last week, but remained at the top end of the trading range of the last few months. Furthermore, after the release of the FOMC statement, the euro climbed to a two-year high of 1.3412, which shows just how vulnerable the US currency is.

In its latest statement, the Fed has taken a clear step towards a future rate cut. Its former basically optimistic outlook on the economy has been replaced by a less confident view. Instead of seeing signs of an economic recovery and some evidence of the housing market stabilising, the FOMC now describes recent indicators as mixed and adjustment in the housing market as ongoing. Although inflation was again described as being elevated, the Fed clearly no longer sees any need to point out that additional firming might be necessary, as the relevant sentence was dropped completely. Moreover, the statement no longer pointed out that some inflation risks remain. Instead, it struck a more dovish tone, saying that the FOMC’s predominant concern was the risk of inflation failing to moderate as expected. So the question is no longer whether rates will fall but how fast they will do so.

In our view, by dropping its tightening bias, the Fed has made its first significant monetary policy change since the middle of last year. The latest statement reflects its growing concern that the problems on the housing market could cause greater ripples throughout the economy. However, as companies’ earnings are still high and unemployment low, the pressure is not yet heavy enough to take monetary policy action. But in the long term, growth rates of around 2% per quarter, as in the last few quarters, will not generate enough new jobs to keep employment at its present high level.

We expect the upcoming economic indicators to underline the impression of a weakening US economy. Consumer sentiment seems to have deteriorated; willingness to buy has declined. The
steep decline in January durable goods orders has not been ironed out; figures improved only slightly in February. And personal consumption is only likely to have risen moderately in February, probably not at all in real terms.

Thus we still see risks for the dollar on the forex markets, particularly versus the yen. As a funding currency for all kinds of risky investment forms, the yen seems to be rising more than any other currency on the back of growing economic risks. We see chances for EUR-USD too, at least for the time being. However, we are also expecting economic growth in the euro zone to slow down and the ECB to then gradually become less hawkish. This limits the euro’s potential. At present, weaker business climate data, particularly a lower ifo index, could pose a risk for the euro.

Stephan Rieke +49 69 718-4114
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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