Forex Wrapup: Dollar Benefits As Traders Focus on Weak Economies Elsewhere

by: Grace Cheng posted on: August 08, 2008 | about stocks: BNZ / ERO / FXA / FXC / FXF / GBB / JYN / UDN / UUP    
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Big and largely one-directional moves have dominated the forex markets this week, and once again, the US dollar is the crowned winner against major currencies. It isn’t just any rebound; the dollar rose mightily to multi-month highs versus the Euro, Swiss franc, British pound, Japanese yen, and was also up against commodity currencies like the Canadian dollar, Aussie and Kiwi.

This week marks the fourth straight week of USD advance against the EUR and CHF, coinciding with the commencement of the Olympics in Beijing on 08/08/08. The current dollar rally is not irrational even though the US economy is still in the dumps. We are currently seeing a massive overturn of expectations relating to rate advantage in the market.

Weak US economy to pull the dollar down? That’s an old story. What’s “new” is that we are getting hard proof of the beginning of a big slowdown and possibly a recession in other countries outside the US, and this includes the Eurozone and the United Kingdom.

EUR/USD broke below the crucial support level of 1.5280 Friday to an intraday low of 1.5005. Both the Bank of England and the European Central Bank kept their main interest rates on hold Thursday, despite fast-rising inflation in these two regions. ECB president Trichet said that “overall, downside risks prevail” while still highlighting the irritating problem of inflation. He also said that existing financial market risks may affect the Eurozone’s real economy more negatively than expected.

Traders are reducing expectations that the ECB will raise interest rates this year, given the tightrope situation it is in when it comes to balancing both economic and inflation risks. As much as Trichet voices his concerns about inflation, he is stuck, and being stuck isn’t a good thing for the Euro.

GBP/USD has fallen very hard this week on worsening economic data from the UK, it fell below 1.9300 for the first time since March 2007. However, the end of pound weakness is still not in sight. The UK has got a big bag of worms that is only beginning to catch people’s attention.

UK house prices fell the most in at least 25 years as banks are reluctant to lend to potential property buyers and as Brits become increasingly concerned about the economy. Nationwide Building Society’s index of consumer confidence fell by the most in four years.

Adding to the economic woes faced by the UK, prices of goods and services rose at the fastest rate in more than 10 years. But, can the BOE do anything much about it? Nothing really, except to sit on their hands.

Next week brings along another blockbuster week of data from the US, UK and the Eurozone. US data highlights include US trade balance, retail sales, inflation and manufacturing data. The pound could be weighed down by UK inflation, housing, retail sales data and the BOE quarterly inflation report.

Yes, there’s a whole lot of news and information coming, and along will bring about high volatility in the forex markets. Day traders will love it as potential for profit increases, but remember this, bounces do happen and will happen.

This article has 6 comments! Add yours below...

Grace Cheng

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This article has 6 comments:

  •  
    hedgeman
    Aug 09 06:28 AM
    We have to diferentiate between "focus" and forced liquidation of positions due to eroding capital. Next to move? Should be EURJPY.

    EURJPY is standing on critical support levels, bellow 162.00 it will start to brake USDJPY advance and should provide a temporary relief for the USD bears. Since EURJPY was a long commodity proxy for the past few years it should revisit sub 150 in the first round. Since EURJPY is in a distribution phase for weeks now this commodity corelation seems to be broken however it will return. The move will most probably be very fast after 162 gives way on daily closing basis. This very popular carry trade is the last to brake and since capital is severely depleted by fast moves on other fronts the liquidity will be very poor and will exacerbate the move. If USDJPY brakes above 110.80 on daily closing basis the downmove of EURJPY could stall (for a short while only). Levels to watch are 165.10, 164.45 and 162.00-50 area (here defense is expected).

    Long commodity, short equity, short USD and carry trades strategies unwounding on an overcrowded illiquid summer market. Fundamentals have limited impact at present.
  •  
    EUARTE
    Aug 09 02:34 PM
    Good report. Your one of the few I bother to read re: US$. But, again, the Brasilain R$ is never mentioned. Any particular reason? Just USA/Japan/EU orientation?
    Thanks!!
  •  
    CLH
    Aug 09 08:00 PM
    Grace --You are right on again. The deniers will lose everything as they continue long in commodities and gold.
  •  
    Lou Thomas
    Aug 10 01:15 AM
    "Weak US economy to pull the dollar down? That’s an old story."

    It's not "old;" it's a magazine story that is being serialized in installments. Wait for the next one, coming quite soon. The suspense is in wondering what it will be? Fannie insolvency? Freddie insolvency? Housing values? Consumer spending? More writedowns beyond subprime in Alt-A, credit card debt (up $15 billion in July), auto loans, student loans? Hundreds of new bank insolvencies, leading the FDIC to appeal to the government for a bailout (it had only 53 billion, and Indymac alone took about 23 billion up front, all of which but 4-8 billion will be recovered, but not for 6 years or so, so they could easily run out). Stock values as consumers shut their wallets? Credit double crunch as the U.S. government pumps hundreds of billions into the deflating housing bubble by bailing out the GSEs and maybe the FDIC, and has to issue more treasuries at very high interest rates to fund those bailouts? Flight of foreign capital from GSE bonds and treasuries?

    It's like waiting for the other shoe to drop when your upstairs neighbor is a centipede. Yeah, it's "old" like Europe is so "old world" and dried up, as Bush tried to claim. We only like "new" stories here, because here in the good old USA we have no historical memory. If something has already happened, then, as the song goes, "I said it once - whyyyy say it again?!"

    I'm truly shocked that you could attempt to offset all of the above with some vague words about rate expectations changing. Based upon misreading Trichet's raised right eyebrow - how prophetic. Do you think that these interest rate changes rule the economic world?

    And what in the Eurozone compares with the above? U.S. problems are orders of magnitude greater than those of the Eurozone.

    Sorry - the dollar increase is an anomaly. You yourself predicted that the dollar's rise would not continue on July 30th, in your article "Dollar Rally Likely to Stall." This present article shows that you have no foundation in analysis - your articles are blown about by the winds of exchange rates, and your feet no longer connect with the ground.
  •  
    ACEMAN
    Aug 11 01:45 PM
    My Website
    Y'all better keep your eyes on Grace and the Euro/USD. She almost makes it look too easy. USD against the Euro at 1.28 by the end of the year especially if J. Trichet gets his way and increases interest rates which in and of itself boost the USD. The ECU needs a strong dollar especially in light of falling commodities and oil prices. Both sides of the Atlantic will benefit from a rising USD. And don't forget, as China's inflation woes spiral upwards the USD and the Euro find a better balance.
  •  
    Lou Thomas
    Aug 15 04:24 PM
    Aceman, your comment turns everything upside down.

    First of all, as I mentioned, as recently as July 30th Grace opined that the dollar rally was likely to stall just as it really took off, so based upon what should we watch her for further news?

    Secondly, as everyone knows and agrees, if Trichet continues to increase interest rates, that favors the Euro and puts downward pressure on the USD, not the other way around as you have stated.

    Thirdly, yes, the European economy would be able to export more if the dollar is stronger, so I agree with you there, although of course a stronger dollar means that the U.S. can continue to run a deficit better, which feeds inflation in Europe, and that is an offsetting concern that may make the ECB, whose mission is to control inflation, take a hard line on interest rates.

    Finally, the more inflation China has the less inclined it will be to continue supporting the dollar, which is the most important single thing that has kept the dollar afloat at all for so long - so Chinese inflation is not good for the dollar. One could argue that the present decline of commodity prices helps to *reduce* Chinese inflation, and therefore gives them more room to support their exports to the U.S. by supporting the USD, and that would be a reasonable argument, but you seem to have said the opposite.

    And, the U.S. does not really benefit from a rising dollar, because as the world's largest debtor nation, the less its currency is worth, the lower the value of its outstanding debts to others. Inflation always favors debtors, although of course if they have to borrow more the cost of borrowing will go up.
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