Bonds Fall on Bank of England Rate Hike

U.S. 10-year Treasury bonds fell
today, after the Bank of England unexpectedly raised its benchmark interest
rate, boosting widespread investor sentiment about the world economy as a whole.
The surprise rate hike led to a fall in European bond prices in
addition to a drop in U.S. bonds. U.S. bonds initially shot higher in late June,
when the Fed initiated a rate-pause to deal with a slowing U.S. economy with
moderating inflation. Continued negative reports through the second half of 2006
led to a steady rise in bond prices until mid-December, when the U.S. released a
strong of positive housing, manufacturing and jobs reports, which has begun to
move bonds lower.

The euro fell to 7-week lows against the dollar today, after
ECB President Trichet appeared to back down from his previous hawkish stance on
interest rates. The ECB today kept rates at 3.5%, and the comments come at a
time when most investors were looking for a hawkish, vigilant position on
interest rates and inflation. The euro had been dominating the currency market
until today’s fall, boosted by a widespread sentiment of growth and inflation
across Europe. Trichet’s apparent shift in language led investors to believe
that the ECB will not be able to raise rates until at least March. Japan has
been struggling lately on a string of negative economic reports, which has kept
a tight lid on any major yen gains. The U.S., after a tough second half of 2006,
is starting to produce positive-growth numbers, which is helping to boost the
dollar on the global market.

Crude oil futures fell nearly 4% today to 19-month lows,
closing below $52 dollars a barrel. A report released today showed that crude
consumption in the U.S. fell dramatically last week, which helped to send crude
lower on demand issues. Crude has been struggling lately on warm weather in the
U.S. and ample supplies. OPEC has called for international output reductions of
nearly 2 million barrels a day to combat losses, and threatens to cut more if
prices do not stabilize. Falling demand and steady supplies however, seem to be
dominating crude action at the moment. Natural gas fell 6.7% on speculations
that current inventories can easily handle any possible demand spike on cold
weather.

Gold futures closed up fractionally today. Gold usually moves
inversely to the dollar and with oil, and neither occurred today. The drastic
drop in commodity prices has caused changes in the relationship between gold and
oil, as investors are beginning to turn to oil as a safe-haven from low energy
prices. 2006 dollar action was dominated by safe-haven buying in gold to escape
oil’s rising prices, not falling prices. Copper futures fell fractionally, as
supplies continue to grow on a global level. Copper has fallen 34% since May
highs.

Corn futures rose over 4% on signs that corn reserves have
been depleted on ethanol demand, and that demand will continue to grow into the
future. Soybean futures rose 1.5% today on signs that overseas demand is
increasing for the bean. Wheat futures rose 2.2% on speculations that export
sales will increase through the year.

Economic News

Initial unemployment claims fell more than forecast last week.

John Lee

johnl@tradingmarkets.com


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