Dec. 12, 2006 — The bigger than expected 8.4% decline in the U.S. October trade deficit to $58.9 billion was the sharpest monthly decline in more than five years. The trade imbalance was the lowest since August 2005. Imports of petroleum products fell 17% to $21.8 billion, the lowest level since July 2005. Notably, petroleum imports as a percentage of total imports eased to 14% from the 15.3% high attained in the past two months. But the improvement in the deficit is also a result of rising exports, as these increased 2.2% to $123.6 billion, while total imports fell 2.7% to $182.5 billion.
Undoubtedly, the falling dollar and strengthening European economies are playing a major role in helping close the U.S. trade gap. But it is also worth pointing that the decline in U.S. imports is not solely reflected in falling imports but also in a protracted retreat of demand for foreign goods. U.S. imports of industrial supplies fell 5.9% to $48.5 billion in October, the lowest in eight months. Whether the 17% decline in imports over the past two months is a reflection of an overall retreat in U.S. demand requires further evidence. As the chart shows below, the last time industrial supply imports fell by such a sharp rate was during the 2001 recession.
The sharp retreat in the October trade gap could prop fourth quarter gross domestic product (GDP) by as much as 0.3%, further supporting prevailing expectations of a pickup in fourth quarter growth. But the optimistic take on the economy may well shed more attention to the imports story.
U.S. dollar
The dollar rebounds off its lows in late morning European trade ahead of today’s Federal Reserve Bank decision, following earlier selling triggered by high inflation figures in the United Kingdom and strong investor sentiment in Germany. But Foreign exchange traders are now bidding the U.S. currency six hours before the Federal Open Market Committee announces its decision on interest rates, widely expected to keep rates unchanged at 5.25%.
We expect little change in the FOMC statement, with the bias remaining on the hawkish side, describing inflationary pressures to continue receding but still above the Fed’s level of comfort. One potential source for dollar upside is another dissent by Richmond Fed President Robert Lacker, the only FOMC member to have called for a rate hike since the Fed stopped lifting rates this summer. Nonetheless, dollar optimism may moderate since this is Lacker’s final vote at the committee before he is left out of next year’s FOMC voting by the annual rotation system.
Today’s international trade report from the United States is expected to show a narrowing in the October deficit to $63.0 billion from September’s $64.3 billion due to lower oil prices dragging oil imports. A second monthly decline in the deficit would likely lend a fresh fillip to the dollar ahead of the FOMC announcement.
We are tempering our short-term bullish forecast for the dollar against the euro and sterling but expect further short-term upside against the yen, with 117.35-40 a possible target for today (more below).
Euro propped by fresh German optimism Euro strength emerged after the Germany’s ZEW business sentiment index rose to a better than expected -19 in December from -28.5 in November, overshooting forecasts for -25 reading. More fundamentally, the current conditions indicator hit an all time high of +63.5 from November’s +53.0 boosting the notion of that the economic upswing is gaining momentum in the Euro zone’s largest economy. With the ZEW’s heightened investor optimism in line with that of the IFO’s business survey’s assessment, the euro’s foundation is further strengthened in the medium term.
Considering the emerging fundamentals, the euro is apt for further gains versus the Australian dollar and Canadian dollar, especially amid next week’s expected decision by OPEC not to cut oil supply.
Stabilizing above the 1.3220 support, EUR/USD is seen targeting the 1.3260s, but further gains seen capped at 1.3280. There is more room to the downside, with preliminary support at 1.3220, followed by 1.3180 and 1.3130 --38% retracement of the 1.2766-1.3367 move.
Yen sees no reprievePersistent selling continues to hit the Japanese currency as the yen hits all-time lows against the euro and eight-year lows against sterling at 155.02 and 229.76. A renewed bout of carry trades from higher yielding currencies is weighing anew on the yen amid fading speculation of a Bank of Japan (BoJ) rate hike this month. We do reiterated that we don’t foresee this week’s tankan business sentiment survey to prompt the central bank to raise rates at its Dec. 18 and 19 meeting because the overall data have painted a mixed picture on consumption and overall GDP growth. The tankan's headline diffusion index of large manufacturers' business conditions for fourth quarter is expected to rise to 25 from 24, just 1 point below the high reached in the third quarter of 2004. We think that in order for markets to elevate speculation for a rate hike would be in the event that the tankan survey comes in broadly higher than expectation, accompanied by upward revisions in capital spending from the prior quarter.
USD/JPY eyes interim resistance at 117.17 resistance—50% retracement of the 119.86-114.41 decline, followed by six-week trendline at 117.30-35. The 55-day moving average follows at 117.60. Support starts at 116.70, followed by 116.45-50, with key foundation creeping high at 116.20.
Sterling inflated by CPI Sterling made broad gains after the 2.7% annual CPI reading in November overshot expectations for a 2.6% rise and kept chances for a rate hike as early as January. The retail prices index-excluding mortgage payments (Bank of England’s previous inflation target) rose to 3.4% y/y from 3.2%, beating expectations of 3.3%, confirming that price pressures are emanating beyond housing related items.
Despite these fundamentals, we expect cable’s upward run to have largely dissipated, leaving 1.9660 as an interim resistance, followed by substantial pressure at 1.97. Downward bias is seen prevailing, with interim support at 1.9610, followed by 1.9570.
Ashraf Laidi Chief FX Analyst CMC Markets US 140 Broadway, 30th Floor New York, NY 10005 (212) 644-4220 (212) 644-4222a.laidi@cmcmarkets.com
