Dollar rally continues, here’s the next key level

US Dollar

The dollar’s unstoppable rally continued yesterday, blasting past 1.20 and then
spending most of the US session testing the resolve of euro bulls trying to
defend the 1.1900 level. To the surprise of many, most of the September data
that we have seen thus far suggests that Hurricane Katrina has had a limited
impact on the economy. The national manufacturing index accelerated from 53.6 in
August to 59.4 in September, which follows Friday’s advance in the Chicago PMI
survey. Like the Chicago report, the improvement in the national index was broad
based, with acceleration even in the employment component, which means that it
would be difficult for anyone to try to pinpoint some sort of weakness in the

Additionally, we also saw a record high in construction spending for the
month of August. Even though the number was pre-Katrina, with all of the
rebuilding efforts following the hurricane, construction spending could be even
higher in the month of September.

Right now, momentum and rate hike expectations
is behind the dollar’s rally. Dollar bears are questioning their positioning
harder with each passing day while dollar bulls continue to charge on forward.
Throughout last week, Federal Reserve officials have held
onto their hawkish views and spent most of their time downplaying the
significance of Katrina and it seems that the market really believes them.

fund futures have been moving around quite a bit lately and are currently
pricing in a high probability of quarter point moves in
both November and December. In fact, there is even a growing possibility for a
move to 4.50% early next year. Of course, these expectations can change just as
rapidly later on as they have over the past few weeks so it will be interesting
to see how the market reacts to this Friday’s non-farm payrolls release.


The euro began taking another nosedive in early trading last night on fears that
Turkey’s bid to join the European Union may face some tough hurdles at the
emergency meeting this weekend. The membership talks avoided an early failure
only a few hours ago with many EU ministers clinging to their seats in
anticipation of news about whether Austria would really block Turkey’s
proposals. After more than 24 hours of negotiations, there finally seems to be
some hope with Turkey’s foreign minister flying in to attend the meeting.

in Germany, there also seems to be some progress on the German political
stalemate. This weekend in Dresden, Merkel’s party won another seat in
Parliament. For the first time since the elections, Schroder is also showing
signs that he may be willing to give up his claim to Chancellorship. In a TV
interview, Schroder said, “I will not stand in the way of anything that would
lead to a continuation of the reform
processes that I started, and a stable government in Germany.” He added, “This
is not about my claim, and absolutely not about me personally.” So with
potentially 2 down and 1 left to go (no new news out of Italy), there still
could be light at the end of the tunnel for the Euro.

Economic data also seems
supportive of a relief rally at some point. The Eurozone manufacturing survey
leaped from 50.4 to 51.7 with improvements seen in Italy, France and Germany.

British Pound

In the UK, manufacturing seems to have picked up following recent improvements
in economic data over the past several weeks for Europe’s second largest
economy. According to the CIPS/RBS Purchasing Managers’ Index, activity rose to
a 51.5 print from last month’s 50.3 reading. Above the 50 expansionary level,
this is the fastest pace of growth in six months as new orders rose on higher
global demand. Notably, manufacturers, unable to pass on higher energy costs,
reported lofty price increases. Suggestive of increasing inflation, Bank of
England policy makers will be sure to take note of the latter when they convene
this week for another interest rate decision. This
time around predicting the outcome should be considerably easier with majority
sentiment leaning towards another “no-action” decision as economic conditions
improve thanks to bottoming housing data along with a suggestive pickup in

However, in light of still depressed domestic demand, market
players will be readily anticipating tangible industrial and manufacturing data
later on in the week in confirming any speculative reversals. Any up ticks in
the data will certainly prove to policy makers that the current neutral policy
is sufficient in bringing the region out of the doldrums.

Japanese Yen

Large manufacturer optimism remained buoyant in
the month, although missing consensus expectations today. The September Tankan
survey showed an increased reading for the second consecutive quarter from a
positive 18 in the previous month to the current rise to 19. However, traders
became wary as the reading fell below consensus estimates of a 20 figure,
leaving many to contemplate any further gains on the diffusion index going
forward. In addition, government releases also printed increases in labor cash
earnings, which leads one to believe further earning potential on the part of
the household.

Although the two have been cited as major reasons why the
domestic currency took a beating today, it is suggestive that comments from
central bank Governor Toshihiko Fukui had ultimately led the charge for yen
bears. Contradicting comments made last week by subsequent officials that
forecasted an end to deflationary conditions in the upcoming six months, Fukui
confirmed no rush to shift to a tightening policy. These recent comments are
inline with previous requirements that a minimum of two consecutive monthly
pickups in consumer prices would be needed. However, further indications of
expansion would also be required in conjunction to viably shift central bank

Kathy Lien

Kathy Lien is the Chief Currency Strategist at
Forex Capital Markets. Kathy is responsible for providing research and analysis
for DailyFX, including technical and fundamental research reports, market
commentaries and trading strategies. A seasoned FX analyst and trader, prior to
joining FXCM, Kathy was an Associate at JPMorgan Chase where she worked in Cross
Markets and Foreign Exchange Trading. Kathy has vast experience within the
interbank market using both technical and fundamental analysis to trade FX spot
and options. She also has experience trading a number of products outside of FX,
including interest rate derivatives, bonds, equities, and futures. She has a
Bachelors degree in Finance from New York University. Kathy has written for
Stocks and Commodities, CBS Market Watch, ActiveTrader, Futures and SFO
Magazine. She is frequently quoted on Bloomberg and Reuters and has taught
seminars across the country. She has also hosted trader chats on EliteTrader,
eSignal, and FXStreet, sharing her expertise in both technical and fundamental