Daily Insight

The dollar was firmer on Friday, albeit in thin and inactive markets. All eyes will be upon the FOMC meeting on Tuesday. It is a 99% certainty that rates will go up 0.25%.

The European Central Bank meet on Thursday, and with more hawkish comments from board members over the weekend, the market is now pricing in a 50/50 chance of a 0.25% rate hike before the year end. European rates currently stand at just 2%. A shift in the Euro rate outlook has been halting the Euro's recent slide against the dollar, and could see gains for the Euro if this outlook is strengthened at the coming meeting. I don't expect a rate hike this time, but the tone of the comments made will be key to Eurodollar price action over the next few weeks.

GBP EUR - Support 1.4650 then 1.4600
Resistance 1.4745 then 1.4810

GBP USD - Support 1.7715 then 1.7630
Resistance 1.7860 then 17900

DATA: UK Consumer Confidence (10:30 GMT)
Chicago PMI (purchasing manager's index: 15:00 GMT)

The dollar has been creeping back up against Euro and Sterling, with last week's momentum seemingly dissipated. Bush's nomination of Ben Bernanke as next Federal Reserve president turned the dollar weaker for a few hours as analysts pointed out that Bernanke was likely to be less aggressive in raining interest rates than Alan Greenspan.

Business confidence figures from Germany are expected to show a slight improvement today, which could drive a Euro rebound in the short term.

Analysts seem divided over the likely direction of the Yen, with a Bloomberg survey giving estimates between 119.00 and 110.00 by the year end!....currently trading 115.60. The Yen's weakness has dumbfounded some commentators, since soaring stock markets and indications from the central bank that rates will soon rise from close to zero should give the currency a boost.

GBP EUR - Support 1.4740 then 1.4700
Resistance 1.4800-10

GBP USD - Support 1.7630 then 1.7600, 1.7550 (long term trend support)
Resistance 1.7730 then 1.7800

DATA: German IFO Index - 09:30
UK CBI Industrial Trends 11:00
US Consumer Confidence 15:00

Cable and Eurodollar continued to rally yesterday, with sterling strength being the main theme in the markets. The dollar failed to rally on the Philadelphia Fed' figures, which were hugely above analysts expectations (17.3 vs expected 10!!!). This was a sure indication that the appetite for dollars has diminished greatly over the past few days, and both cable and Eurodollar continued to grind higher.

UK Retail Sales were slightly better than expected yesterday, showing small growth on the month, but still an overall decline on the year.

UK GDP data (09:30) should show a 0.4% rise for the third quarter and 1.6% year on year. Anything below this could leave sterling vulnerable today.

GBP EUR - Support 1.4700-1.4720 then 1.4670
Resistance 1.4785 then 1.4870

GBP USD - Support 1.7700-35 then 1.7600
Resistance 1.7800-20 then 1.7930

DATA: UK GDP (09:30) - Expecting +0.4% on quarter, +1.6% on year.

The Dollar made a new high against the Euro in early trade yesterday, but a sharp reversal ensued from there, and both Euro, Dollar and Cable ended the session looking fairly bullish. There is so much fundamental news already "built in" to the Dollar rally, so it's not surprising to see it running out of steam around these levels. The EUR USD low was just 4 pips above the July low (major support).

Hurricane Wilma is also weighing slightly on the Dollar.

Sterling continued to rally strongly versus the Euro, breaking into new highs as I type. The MPC minutes revealed a unanimous 9-0 vote to leave rates unchanged at the last meeting, cementing growing expectations of no further cuts this year. This explains Sterling's strength.

GBP EUR - Support 1.4700 then 1.4660
Resistance 1.4770 then 1.4835

GBP USD - Support 1.7595 then 1.7540
Resistance 1.7670 then 1.7733

DATA: UK Retail Sales 09:30 (expecting +0.6% on the month)
US Jobless Claims 13:30
Leading Indicators 15:00
Philadelphia Fed' 17:00

We have seen serious Euro weakness overnight, which is why GBP EUR is higher, EUR USD is much lower, but Cable is relatively static. Dollar strength is also evident as President of the San Francisco Fed' Bank suggested rates may need to go as high as 5.5% next year to contain inflation. (In my opinion this will not help, since the inflationary pressures are almost solely due to rising world energy prices, which cannot be influenced by monetary tightening!)

Yesterday's Inflow from Foreign Investment figures showed that investors ploughed over $91Billion into US assets in August, versus analysts expectations of $60Bn. This helps to explain the sustained dollar strength.

GBP EUR - Support 1.4600 then 1.4560
Resistance 1.4740 then 1.4770

GBP USD - Support 1.7420 then 1.7388
Resistance 1.7520, 1.7535 then 1.7570

DATA: Bank of England minutes (09:30)
US Housing starts (13:30) - This isn't usually a very significant figure for currency markets

UK CPI rose at its fastest rate since records began in September(1997) according to the Office for National Statistics. A rise of 2.4% for the third quarter was above the Bank of England's 2.2% target. However, the figure was still lower than many analysts expectations, which is why we are seeing sterling weakness in the first few minutes since the data release at 09:30

The dollar drifted higher yesterday amidst a lack of any real data to give the market impetus. Despite Friday's double blow of rising inflation and falling industrial production, it is believed that the dollar is being supported by massive investment flows into US stocks from foreign investors.

Sterling was considerably weaker, closing below the important 1.4600 pivot level. This leaves a bearish tone for today, with the market looking to have firmly rejected the 1.4600+ area.

GBP EUR - Support 1.4552 then 1.4500
Resistance 1.4600 then 1.4675

GBP USD - Support 1.7475 then 1.7388 (recent low)
Resistance 1.7540 then 1.7635

DATA: UK CPI (09:30)
US Producer Price Index (13:30)
US Net Foreign Securities Purchases

Friday's inflation data from the US was the main news of the day, with energy prices in the wake of hurricane Katriana contributing to the 1.2% CPI figure. This was the largest gain in 25 years!

There is a two-fold impact from this news. Firstly, it absolutely cements the view that the Federal Reserve will raise interest rates in November, and probably again in December in an attempt to cool the economy. This would usually be bullish for the dollar, but the figures were so high that the worry now is of dollar devaluation. If prices are rising rapidly, a dollar tomorrow buys you less than a dollar today, and this means the currency is devaluing against others. The market has been holding onto the belief that the Fed's interest rate rises will stop inflation in its tracks, and that the main outcome will simply be higher rates, which draw in investment flows and prop up the dollar.

The worry now is that the Fed' is not in control of inflation, because the main contributor is rising energy prices, which they are NOT able to influence. This is why the dollar was sold off after the data releases on Friday.

GBP EUR - Support 1.4600 then 1.4500
Resistance 1.4655 then 1.4700

GBP USD - Support 1.7600 then 1.7535
Resistance 1.7735 then 1.7820

DATA: US Empire Manufacturing Index (13:30) - Forecast 15.00

The European Commission is "optimistic" about the state of the Euro economy according to comments from Jean-Claude Trichet yesterday. He also stated that European interest rates are at the "right level", but expressed some concern about inflation. Higher energy costs are driving inflation, and this increases the possibility that the ECB will raise rates to keep inflation in check.

Sterling also received a boost yesterday when two members of the Monetary Policy Committee also made comments skewed towards inflationary fears. After building speculation that we would see a rate cut in November or December, the two members expressed concern over high oil prices. Walton indicated that the MPC was now more united in its outlook than when they voted 5-4 for a cut in August. This suggests that November will be a "no change" vote. Sterling reacted strongly, driving up through 1.4600 Vs the Euro, reaching a high of 1.4655 but settling back to close a couple of ticks below the big level. We all know by now that 1.4600 is major resistance!

GBP EUR - Support 1.4600 (if we're trading above!) then 1.4500
Resistance 1.4655 then 1.4700
GBP USD - Support 1.7500 then 1.7445
Resistance 1.7575 then 1.7635
DATA: US Retail Sales (13:30) - We're expecting a 0.4% rise for September
US Industrial Production (14:15) - A 0.2% fall is expected. More important is capacity utilization, which should be 79.6%. A higher figure will be inflationary>>>bullish for the dollar.

Greenspan's comments failed to have much effect on the dollar yesterday, with only a mild dollar sell off during the day, quickly erased overnight.

Against the Yen the dollar has remained consistently firm, despite soaring Japanese stock markets and a generally better economic outlook.

GBP/EUR remains unchanged, trading within a tight range again yesterday after the severe falls last week. The failure of sterling to retrace even a third of last week's losses is probably an indication of further weakness to come.

The focus today will be on the US Trade Deficit at 13:30. We are expecting a deficit between $59.5 - $60.0 Bn for August, up from $57.9Bn in July. The market is already braced for a bad figure, but anything over 60 could result in dollar weakness this afternoon. This is likely to be offset by Friday's Retail Sales and Industrial Production data which is likely to add to the inflationary theme, cementing the Fed's intentions to raise rates again in November.

GBP USD - Support 1.7400, 1.7310 then 1.7269(July lows)
Resistance 1.7453 then 1.7520

GBP EUR - Support 1.4500 then 1.4400
Resistance 1.4600 then 1.4650

DATA: US Jobless Claims 13:30
US Trade Balance (Aug') 13:30

More Brits than ever are buying second homes abroad says the latest data from the Office of National Statistics. The value of foreign property owned by UK residents has grown from £7 billion to £23 billion in the last decade, and has doubled in the past five years alone. Spain and France are the most popular destinations, with over 70% of European investment. Close behind comes the USA, and then Portugal.

With the staggering growth of this market, it is not surprising that a host of companies are now competing to provide services to individuals looking to make the leap. Moving house has long been described as the “second most stressful event after bereavement”. However, with the added complications involved in making a foreign property purchase, simply “moving” has been relegated to third place. Issues such as local regulation, language barriers and the inevitable differences in the buying process can be unnerving for British buyers who are often bewildered by the extra research and planning required to make their purchase run smoothly.

One area that has improved since the “buying abroad boom” took off in 2000, is foreign exchange. Buyers had previously been at the mercy of the high street banks when it came to fixing an exchange rate for their transaction. However, recent years have seen the growth of independent foreign currency brokers who are able to offer better exchange rates, as well as practical support and advice aimed at helping buyers understand the foreign exchange process. The success of these brokers has been driven by the focused approach they take. By concentrating entirely on foreign exchange, costs remain low, and by dealing in large volumes of currency, brokers are able to obtain “interbank” rates of exchange, passing these savings on to their clients. On a transaction of £200,000, the average saving by using an independent broker is £1000 - £1,500.

Independent brokers provide clients with access to daily market updates on each major currency, helping clients understand the background to the market before they make their deal. Most brokers also offer “forward” contracts, allowing clients to reserve their currency at a guaranteed exchange rate. Clients only need to pay 10% of the currency value initially, with the balance payable on the settlement date. This can be a valuable facility for property purchases, as the purchase price is usually agreed several weeks or months before the property is paid for.

Forward contracts eliminate the risk of the exchange rate fluctuating during the buying process. When you consider that the Sterling/Euro rate fell by over 7% between August and November 2004, you can see why currency risk is an important consideration for anyone buying abroad. By agreeing to purchase a European home in August and buying the currency to settle the deal in November, the exchange rate movements would have cost the British buyer an extra 7%. On a property costing €200,000 property this amounts to an extra €14,000, over £9,000 in sterling terms.



By using independent brokers to secure advantageous exchange rates, buyers of foreign property can fix their purchase price and ensure that they are not at the mercy of volatile markets.

Memories are short, no more so than in financial markets. This time last year economists and traders alike were predicting doom and gloom for the dollar, and were to some extent vindicated, with the dollar making a low of 1.95 vs sterling and 1.35 vs the Euro in early 2005. Since then however, the greenback has gained over 12% against sterling, and 14% versus the Euro, and previous talk of a dollar rout is no longer on the agenda. The major factors contributing to the dollar rally have been better than expected news on the US economy, inflationary pressures due to rising commodity prices, and rising interest rates, making the dollar a more attractive investment now that it pays a decent yield. With eleven consecutive rate hikes over the last two years, it is no surprise that the balance has swung back in favour of the US currency.

Much of the shine was wiped off the Euro earlier this year when the new EU constitution was rejected by the French and Dutch, leaving the single currency under pressure. Sterling was favoured for a while, gaining sharply, but then falling back after the July bombings in London. Subsequent weak economic data from the UK has not been helping, and with the Bank of England cutting interest rates by 0.25% over the summer, it is not surprising that the pound has been weaker against the dollar. There is a strong possibility of a further cut before the year end.

The Euro has had its own problems recently, with Euro-zone growth forecasts to be downgraded, and uncertainty hanging over the region’s largest economy following the German election debacle.

The US economy on the other hand has apparently been doing rather well of late, and the impact of the recent hurricanes is expected to be short term. Despite falling sharply in the wake of Katrina, the market for US currency has been buoyant ever since. The real driver behind the strength however, is the Fed’s aggressive stance toward interest rates. After eleven consecutive hikes, it seems the appetite for higher rates remains undiminished, with a 0.25% rise shortly after Katrina sending a clear signal to the market that rates will go higher still in due course. Another quarter percent hike is in the pipeline at the November meeting.

The big question for the dollar is whether the Fed’s “measured pace” of rate rises will lead to a cash crunch further down the line, as businesses find the cost of borrowing starts to impinge upon growth prospects, and the consumer begins to retrench. Christmas sales will be an important barometer of consumer sentiment toward higher borrowing costs in 2006. The latest data from the US suggests that consumer confidence and spending is starting to decline, which may limit the Fed’s scope for further tightening. The consumer accounts for two thirds of the US economy, so quite simply, they must keep spending if the economy is remain healthy.

The arguments for further rate rises stem from the inflationary pressures that have arisen over the past 24 months, in particular the persistently rising oil price. The PCE Price Index (The Federal Reserve’s favoured measure of inflation) came in higher than expected last week, as did the Chicago PMI, both of which are supportive for the dollar. However, if the higher prices being paid by companies cannot be passed onto the consumer, it leaves the Fed’ in a quandary over what to do next. If rates rise too far, or too fast, the consumer will at some point feel unable to continue spending, and demand/consumption will fall. Unfortunately, the high oil price will not be brought under control by the Fed’s attempts to curb inflation at home, since most of the rising demand for oil is coming from outside the US, notably from growing economies like China. With the inflationary demand coming from outside the US, there is little that can be done to help bring down the price unless supply can be increased.

The market is betting heavily on the Fed’s interest rate drive being successful in bringing inflation under control without damaging the consumer. Funds are pouring into the dollar from Asian investors seeking yield, as interest rates in Japan are still close to zero. The Yen has also been falling against the dollar in recent weeks as this trend accelerates. US government bonds now yield 1% more than German government bonds.

Many investors associate a rising dollar with a stabilising US economy and an improving investment climate. However, this is not necessarily the case. Inflation, and the fear of inflation is driving funds into gold, which is up 20% so far this year, or 33% if you discount the appreciation of the dollar. In other words, the dollar has been in demand recently, but gold is now the world’s favourite currency. This holds true against the notion that the Dollar’s rise against the Euro and Sterling is not a case of it being the best currency to hold, but perhaps the “least ugly” in the short term, with investors chasing short term yield rather than long term value. The furious dollar rally reflects the changing inflation and interest rate outlook, especially compared to the Euro and Sterling, both of which have had negative adjustments to their own rate outlooks over recent months. The UK is cutting rates, while the Eurozone is on hold at 2%, though data released in the last few days suggests that inflationary pressures may force the ECB to raise rates early next year.

In an article I wrote for www.appliederivatives.com last year I suggested that the rising gold price was in fact a function of the instability created by US foreign policy, and that prices were likely to hit $500 in short order. This now appears to be coming to fruition, and with the war in Iraq going nowhere fast, the situation is if anything deteriorating. Even a stronger dollar has failed to ease gold and oil prices, with both hitting fresh highs in the last few weeks, proving that the commodity bull is not simply a side effect of dollar weakness. The current 3.75% yield on the dollar may look appealing compared to the 1% of 2002-3, but as with all “high yield” currencies, there are risks involved in holding them. The dollar bought today is certainly not the same dollar as you were buying five years ago, and once the dust settles, it may well look like a risky play after all.

The long term technical outlook for the dollar remains negative. Against both the Euro and Sterling the dollar is still within a long term downtrend, and the last few days have seen it is testing the long term trend support at 1.7500 vs sterling (see chart below). The reaction here should enlighten us as to whether the recent dollar rally is sustainable, or whether it is simply a correction within the longer term trend.