Dollar remains under pressure

The sharp decline in the USD despite stronger US data and continued hawkish comments from Fed officials highlights how USD sentiment has turned bearish once again.

Despite the strong readings of US PPI and housing starts and the Fed’s Fisher warning that the risks of unacceptably high inflation outweighs growth risks, EURUSD has broken sharply higher through key resistance at the 1.3195 level confirming that a major corrective bottom has been established and that the longer term up trend is being resumed.

Any near-term corrective pullbacks are likely to be limited to the 1.3195/85 area, providing a buying opportunity. The euro has also been gaining ground on the crosses with EUR/JPY breaking higher through the previous 155.60 peak.

In the UK the BoE minutes are the focus and the market is expecting a 9-0 vote in favour of unchanged rates, but any sign of a hawkish tone is likely to provide Sterling with a further boost, especially within the current bullish environment. Moreover, the CBI distributive trades survey for December is also expected by the market to show an

improvement.

GBP/USD has led the way among the majors once again with the sharp rebound from the recent 1.9440 lows breaking higher through initial down trendline resistance confirming that a bottom is in place and we would now expect gains to target the 1.9845 highs.

 

Technical Commentary

EUR/USD:  The US current account balance widened to a record deficit in the third quarter, with a deficit of $225.6bn reported following the $217.1bn deficit seen in Q2. It is interesting to note that the balance on investments has now turned consistently negative with a deficit of $3.8bn in Q3, up from a deficit of $2.2bn in $Q2. This deficit on income is expected to continue to grow, increasing its contribution to the overall deficit. The US CPI data meanwhile was softer than expected, flat on the month for both the headline and core measures against consensus forecasts for a 0.2% rise. A higher deficit combined with flat inflation means that pretty soon markets will resume talk of a Fed rate cut in Q1 of 2007, something that will accelerate if this week’s data on housing and growth come weaker than expected. We stick to our short dollar strategy on dips or rally. For this week, we endured the decline to 1.3050 on Monday and we need a break above 1.3180 to confirm that a bottom at 1.3050 is in place and confirm a minimum move to 1.3295, then 1.3365 the most recent high and 1.3405, this week’s major resistance line. Depending on how easily the euro breaches key resistance levels, will define the next target. If the euro is facing difficulty to break through 1.3365/1.3405, then this will indicate that a near term top is in place. But if the key resistance levels are breached without difficulty, then that is a sign that the euro is headed higher to 1.3580/1.3670, the all time high reached in Dec ’04. On the downside, stops recommended below break of 1.3000.

 

USD/CHF: The SNB hiked rates as expected by 25bp as expected, but hawkish talk from the ECB and the stronger than expected Ifo pushed EUR/CHF above 1.6000. Assuming that the Monday high of 1.2270 is this week’s top, then we expect a minimum test of 1.2130 on USD/CHF, break of which sees a test of 1.2080, then 1.1980.

 

USD/JPY: The dollar kept the bias on the upside, but has yet to breach the 118.60 resistance level. The BoJ kept rates unchanged, in line with expectations. All eyes remain on Fukui and whether he would signal the possibility of a January rate hike or throw further cold water on this. Following last Friday’s Tankan, USD/JPY is now forecasted at 114.04 for FY06/07 by large manufacturing firms from a previous estimate of 111.64. Watch possible rallies to 118.60, which if broken will open the way for more gains to 119.60. But in a weak dollar environment, we see a break of 117.80, yielding a move to 116.70, then 115.40.

 

GBP/USD: Sterling remains extremely well supported by medium and longer term flows with the UK basic balance (consisting of current account, portfolio and FDI flows) still moving higher. In addition, M&A news on Friday was sterling positive with the confirmation that Japan Tobacco is to buy Gallaher for GBP7.5bn. Data from the UK has also been on the positive side with the UK retail sales surprising on the upside, rising 0.3% m/m in November against market expectations for a flat monthly reading. The retail sales data following the better than expected labour market report and stronger CPI led the market to price in more than a 70% chance of a hike in Q1 2007. The break above 1.9615 is very positive indicating a move on 1.9730, beyond which clears the way for another attempt on 1.9845, the previous high and thereafter hopefully 1.9930. Only two consecutive closes in NY above 1.9930 signal the move to 2.0100.

 

Disclaimer: The recommendations on this page are for indication purposes only and the Financial Mirror does not take any responsibility for investment action taken on the above. Always consult a professional before investing.