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Forex Market News - FX Briefing 4 May 2007 - Dollar treading water

FX Briefing 4 May 2007
• USD firmer on stronger US data in the run-up to Fed and ECB meetings
• BoE set to raise central bank rate, ECB to announce interest rate step
• Fed possibly less pessimistic on inflation outlook

Dollar treading water
After being on the defensive for a month, the US dollar was given a breather in the first week of May: EUR-USD tumbled to under 1.36, cable dropped to below 1.99, and USD-JPY climbed over 120. Due to the relative weakness of the yen, EUR-JPY rose again slightly to a fresh high of 163.60.

Several factors are responsible for the stabilization of the dollar:

1. Nothing much is happening on the Asian markets at the moment due to the “golden week” in Japan and the labour day holiday week in China.

2. With regard to EUR-USD, the markets fear technical resistance points above the old record high of 1.3666. Moreover, according to the CFTC Report, speculative market participants have been building up extremely high long positions in EUR-USD over the past weeks. Many see this as an indication that market momentum could be diminishing.

3. This week’s US economic indicators have mostly turned out to be more favourable than expected. The April results of both the ISM manufacturing and non-manufacturing indices are better than in the previous months. Furthermore, the decline in initial jobless claims at the end of April has given rise to hopes that the labour market could remain stable, despite slower growth.

4. Markets are so upbeat about the economic outlook in the eurozone that even good news hardly has any impact, even though the latest data turned out either as expected (the purchasing managers indices), or even weaker (German labour market data).

5. Central bank meetings in the USA, the eurozone and the UK are on next week’s agenda. In the run-up to such important events, once the players’ expectations have been formed, the markets tend to trade within familiar ranges. So EUR-USD has been unable to advance either.

Fed more relaxed, ECB vigilant, BoE to raise
Although the Bank of England continues to be confident that the inflation rate will drop significantly over the next few months, it seems to be a foregone conclusion that it will raise the bank rate by 25 bp to 5.5% next Thursday. In view of sustained strong economic growth, which has gained additional support from the favourable development in the eurozone, plus the renewed acceleration in house prices, the BoE had already been tending towards raising interest rates. The unexpected acceleration in consumer prices in March to over 3% is likely to make it even easier for MPC members to decide in favour of higher rates. The markets have already firmly priced this in.

The ECB Council will probably leave the refi rate unchanged at its meeting in Dublin, but, as already indicated last month, is likely to signal an interest rate hike to 4% in June. If it sticks to its previous communication pattern, the statement will probably emphasize the ECB’s “strong vigilance”. If the refi rate remains unchanged, monetary policy will continue to be classed as accommodating. In its statement on price development, the ECB will continue to highlight the risks to price stability. The rise in energy prices seems to be turning out slightly higher than expected in the March projections; but this is offset by the sustained appreciation of the euro. However, as the economy was surprisingly robust in the first quarter, the ECB could indicate a possible upwards revision of growth expectations. In view of the monetary development, we are expecting a few comments to put things in perspective. It is possible that special influences on money and credit growth will be mentioned, e.g. M&A activities and international capital movements.

The FOMC is not expected to change interest rates on Wednesday, nor to announce an interest rate step. Although the data over the last few weeks have mainly been underlining the downside risks to growth, the economic situation in the USA has not changed so much as to warrant a significant revision of the Fed’s statement on this topic. However, its assessment of inflation could possibly be more relaxed: despite the unfavourable development of energy prices, both CPI and PCE deflator indicate that core rates are slowing. Furthermore, unit labour costs for the first quarter show that the tight labour market has not yet affected labour costs. The prospects of the core PCE deflator returning to the comfort zone are now better again than at the time of the FOMC’s March meeting.

Stephan Rieke +49 69 718-4114
Economics Department
+49 69 718-3642
[email protected]
Foreign Exchange Trading
[email protected]
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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