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Be Careful of the Dollar’s Rally

- Will Jawboning be Enough to Stop the Euro's Rise? - Be Careful of the Dollar's Rally - British Pound Rallies on Potential Respite for Mortgage Lenders

DailyFX Fundamentals 04-17-08

By Kathy Lien, Chief Strategist of

Will Jawboning be Enough to Stop the Euro’s Rise?

The Euro hit an all time high of 1.5983 against the US dollar following better than expected trade balance numbers. The strength faded quickly however when Eurogroup President Junker told the markets that they “did not correctly understand G7 message on FX” and he “does not consider the euro’s rise vs. dollar desirable.” This triggered a 100 pip drop in the EUR/USD in a matter of minutes. Junker jawboned the Euro at a time when Euro traders were looking for a reason to sell, which is why the move happened so quickly. However Junker is not Trichet and Trichet is not Junker. This is not the first time that the EU President has complained about the strength of the Euro. Back in March, Junker said that the Euro was overvalued and in September he said that the strong currency is starting to be a great concern – at that time, the EUR/USD was trading at 1.38. Therefore if he was worried about the Euro 2000 pips ago, he would most certainly be worried about the Euro now. Instead, we choose to pay far greater attention to the ECB because they are the ones that have the power to impact the currency and monetary policy. Although ECB member Weber also said that currency volatility is not helpful for growth, in contrast to Junker, he feels that the G7 statement speaks for itself. His comment that the next inflation forecasts by the ECB will reflect recent wage deals indicates that inflation is still very much of a concern. With oil prices above $114 a barrel, their focus on price pressure is justified. The fact that the Eurozone’s trade deficit turned into a surplus in February is proof that the strong currency is not slowing growth significantly. On a year over year basis, exports grew 13 percent while imports rose 11 percent. As explained by Weber, 80 percent of German exports are invoiced in Euros, so German corporations are not particularly exposed to the effect of currency translations. Unless jawboning comes from the President of the ECB, comments from Junker or any Eurozone politician will not be enough to stop the Euro’s rise. German producer prices are due for release tomorrow and we expect them to be hot.

Be Careful of the Dollar’s Rally

The US dollar is stronger across the board despite weaker economic data. Jobless claims were better than expected and below 400k, but remain at very elevated levels. New claims increased to 372k while continuing claims hit the highest level since June 2004. We fully expect a further deterioration in the US labor market, particularly since fresh layoffs are happening on a near daily basis. Just today, Merrill Lynch announced that they are cutting 4000 jobs while the NY Times plans on cutting 100 jobs (JPMorgan should be announcing layoffs at Bear Stearns relatively soon). Earlier this month we said that the layoffs at Dell, Motorola, ATA and Aloha Airlines will shave at least another 14k from the US workforce, but now its at least 18k. The Philadelphia Fed survey also fell to a 7 year low, discounting the rebound in the Empire State manufacturing survey. The only good news was the leading indicators report which increased 0.1 percent. So why did the dollar rally? Risk appetite. Even though the Dow is up modestly, carry trades are up across the board. After yesterday’s 200 plus rise in the Dow, any extension move is a bonus. Yet, nothing has changed. The US economy did not turn around overnight and if anything, it continued to worsen. Therefore we caution all traders on reading too much into today’s dollar rally.

British Pound Rallies on Potential Respite for Mortgage Lenders

The British pound soared on the hope that the Bank of England will come and save the day. In recent weeks, the UK mortgage market has become a mess with lenders growing more stringent about how much and to whom they will lend. However he pound has rallied today as respite may be in sight. According to the Telegraph, the Treasury is set to approve and officially announce a plan that would help add liquidity to the mortgage and money markets. This plan is ground breaking because it would be a significant departure from the central bank’s typically laissez faire attitude. The initial details of the plan centers around the Bank of England taking loans over from mortgage lenders to free up capital and risk for companies like Halifax and Nationwide. This is similar to the Fed’s recent moves in accepting mortgage backed securities in return for US Treasuries and because of that, the concerns are similar as well, which is that the UK is giving up its safe and secure gilts for riskier assets.

Canadian, Australian and New Zealand Dollars Hit by Selling Pressure

The Canadian, Australian and New Zealand dollars have been hit by weaker commodity prices and dollar strength. Canada was the only country to release consequential economic data. Consumer prices grew at a slower pace in March which was worse than the market expected, but right in line with our expectations. The drop in industrial product and raw material prices gave us a good clue that CPI could be soft as well. Over the next 24 hours, we are expecting Australian import and export prices along with Canadian leading indicators and wholesale sales. These are Tier 2 reports for both countries, which mean they will not be particularly market moving.

Japanese Yen Crosses Rally Despite Lackluster Performance in Stocks

The Japanese Yen crosses were stronger across the board today despite the lackluster performance in US stocks. Economic data was mixed with industrial production revised higher in February and the Tankan manufacturing DI report falling to the lowest level since 2003.