Dollar on the ropes

The U.S. dollar index reached its lowest point in three months as differences in the pace of recovery between the U.S. and the Eurozone rose to the surface. The latest evidence shows growing confidence within the region. Meanwhile the anecdotal U.S. regional evidence from the Fed’s 12 districts continued to prove that the domestic economy maintains a moderate pace of growth.

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U.S. Dollar – At a level of 81.63, the dollar’s loss on an index basis against a basket of actively traded currencies reads 7.8%. Two basic factors account for the strong run in the first half of the year. The economic stimulus induced a heady pace of growth leading investors to conclude an imminent monetary tightening, which in turn boosted the dollar’s appeal. Second, the euro fell out of favor on heightened fears of an impending economic implosion. As we know, those fears have been reduced and the accompanying growth in European output has chopped speculative short positions against the euro back down to size. The dollar’s decline today alone is pretty dramatic. It’s faring worst against the other traditional barometers of risk – the Swiss franc and the Japanese yen where the charts report a sizeable blow-off in dollar sales.

Euro – A couple of events have bolstered the euro, which today rallied to its best level against the dollar since the day the European authorities, central banks and IMF rallied around putting in place a near $1 trillion package aimed at supporting the banking system and ailing governments. French Finance Minister Christine Lagarde reiterated to Bloomberg television news the support for the European banking system and weaker sovereigns put in place at the time. The initiative of founding a Luxembourg-based fund at the time would ensure that national debt issues would be dealt with going forward making the risk of default an extremely low prospect.

Meanwhile, economic confidence within the Eurozone for the month of July unexpectedly rose to 101.3 and was revised higher for June once again underscoring the rude health of the 16-member economic area. Industrial confidence did contract but at an increasingly slower pace. Consumer confidence remained static while service confidence also rose. Elsewhere a business climate indicator for July improved to its best reading since March 2008 providing further support for the euro, which touched a high today at $1.3091 and currently buys ¥113.58.

Someone once remarked with intrigue on the reach of the fallout of the U.S. financial collapse on Europe. Indeed it was the sudden loss of confidence in the European financial system after it became entangled in a web that caused the euro to suffer. It was assumed that if the banks failed to lend to one another, then they would fail to lend to industry. However, the weaker euro and a flaw in this lending theory along with a revival in Asian demand created a perfect scenario for European exports. Highlighting this today is a dip in the German rate of unemployment to its lowest level since November 2008 when it stood at 7.6%. Thereafter the employment scene deteriorated lifting the rate of unemployed at 8.3% during the worst of the crisis. At the same time the U.S. rate of unemployment had accelerated to 6.9% before soaring to 10.1%. Its subsequent gentle decline to 9.5% is mild by comparison to the German experience where the outright rise in jobless was less severe and faster to heel.

Aussie dollar – The risk-on attitude on Thursday allowed the commodity units to catch up having slumped the day before. The Aussie rallied on the health of firming Asian equity markets reaching 90.43 U.S. cents before profit-taking set in.

Canadian dollar – The Canadian dollar also benefited from a decline in the value of the greenback while commodity prices generally firmed. The exception remains the price of crude oil, which according to midweek data remains in ample supply. However, the modest improvement in the U.S. economy doesn’t bode badly for future demand and that seems to be an inspiration for Canadian dollar bulls who drove the unit to an early morning peak at 97.00 U.S. cents.

Japanese yen –Support for the dollar came in at ¥86.75 once again having created similar support at the end of last week. The story is more about dollar weakness rather than yen strength at this stage given the moderate pace of American growth and the fact that dealers are likely to want to test a rather quiet Bank of Japan in order to provoke at least comments about currency intervention if not the real deal.

British pound – The pound ground higher despite fresh data suggesting a little more uncertainty ahead for the housing market. Yet investors seem hell-bent on owning the pound that was so badly beaten up by the greenback earlier in the year now that growth differentials appear to favor Britain. The Nationwide Building Society reported home prices for the month of July 0.5% for July leaving them 6.6% above year ago levels. A Bank of England official earlier in the week noted to a panel of lawmakers that he was more surprised with the extent of last year’s rebound, more than the fact that they were currently leveling off. Data released by the central bank today also hinted that banks’ credit conditions tightened and the number of mortgage approvals slipped as demand weakened in the face of uncertainties in the light of the post-election budget. The pound reached $1.5662 while declining per euro to 83.78 pence.

Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC

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About the Author

Andrew is a seasoned trader and commentator of global financial markets. He worked for several London-based banks trading cash and derivatives before moving to the U.S. to attend graduate school.