Tuesday November 10, 2009

The dollar has stabilized on Tuesday after a raucous battle to begin the week. However, key influences helping the dollar stand up appear to be a series of known factors that may have only provoked light profit taking before the move can continue. With many currencies reaching new highs for this move recently and the dollar index reaching a 13-month low there is a reasonable amount of resistance towards a headlong lunge into fresh territory for now at least.

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The Brazilian real pared gains after the government levied a tax on foreign investors wanting to buy domestic stocks. Meanwhile following yesterday's commodity price surge, the triple play of the New Zealand, Canadian and Australian dollars all gave up ground on Tuesday. The Mexican peso remains troubled on account of a budget wrangle scheduled for a vote this week - failure of its safe passage, the nation's credit rating may go up in smoke.

Talking of country ratings, the British pound took a tumble during the morning after a story emerged that Fitch Ratings might cut loose the country's coveted AAA credit rating. However, the actual reading here is that Britain is at most risk among developed nations of losing its rating because it is the country that needs the largest budget adjustment. In fact Fitch maintained a stable outlook on Britain and forecast that, knowing the implications of its fiscal position, Britain would likely address its budgetary task next year. The pound shed 1.5 cents as the news came out falling to $1.66. As shattered nerves have been reassembled the pound is on a firmer footing at $1.6717.

Again, this ticking fiscal time bomb is a known fear factor for the U.K. and presented one of those trading opportunities earlier when all hell lets loose. We note that several analysts have subsequently noted that this is a strong buying opportunity on a still undervalued pound.

The euro slipped to $1.4950 during the Asian session and then again lately in the New York session. Currently the euro buys $1.4978. Investors losing faith in the euro today are likely responding to a comment from the European Employers Federation, which stated that the rise in the value of the euro had reached a pain threshold for industry. Investors will have to take this remark in their stride.

First of all, the comment is from an employers' federation and you won't find them praising anyone for a weak currency. Has anyone heard from the UAW on the cheap dollar boosting overseas auto demand? Second, it really is nothing more than a comment and the best they can expect is for it to be heard from Mr. Trichet at the ECB. Indeed, he already did hear them when he tossed his sledgehammer across the Atlantic ahead of the G20 meeting. Remember his words last week? A strong dollar is in the interests of the U.S. That's why we say that rising vocal complaints about a rising euro (or any other currency winning against the weaker dollar) are nothing new.

Luxembourg's top banker and ECB council member, Yves Mersch today told reporters that it would be no surprise to see an upward revision to European area growth before the end of this year. He also supported recent comments from Mr. Trichet in that he doesn't anticipate the rollover of maturing one year loans in December to the banking system. In other words the credit markets are fully-functioning and there should be plenty of liquidity to meet demand. Once again the tone of Mr. Mersch's comments are a known factor after European growth surprised on the upside in terms of hearty third quarter growth.

The other possibly more worrisome piece of data out of the Eurozone earlier today was the leading indicator of investor optimism - a typically reliable statement of executive and investor sentiment. It was expected to dip a little from a reading of 56 in September, but in the event it dropped to 51.1. A tad worrisome we feel, but not enough to make us ditch our deeper-rooted recovery hopes. One has to remember that the higher investors drive equity prices, the less room there appears to be above. Perhaps today's ZEW survey carries some fears that recovery has become fully priced into equities.

But what we do doubt is that the ECB or any other bank will act unilaterally and so without the tacit approval of the U.S. treasury by selling its own currency to support the dollar. So when all of these known factors are swept to one side the price discovery process comes down to supply and demand. And we all know who wins those fights.

Andrew Wilkinson

Senior Market Analyst