Dollar shrugs off all weakness

• February 27, 2006
• Kathy Lien

US Dollar

Despite a surprisingly weak headline durable goods figure and a jump in oil
prices, the US dollar gained strength and edged near its 10-day high against the
Euro.  Durable goods dropped 10.2 percent last month due to a plunge in Boeing
aircraft orders.  The less volatile durable goods orders excluding
transportation number on the other hand rose a more than expected 0.6 percent
with a 1.0 percent upward revision for orders in the month of December.  The
strength in the more stable component helped to relieve some of the knee jerk
dollar bearishness and suggests overall factory demand still remains solidly. 

Oil prices spiked higher Friday along with gold prices
following a terrorist attack on an oil processing center in Saudi Arabia.  Even
though the Saudis have quickly refuted any impact on their oil exports, the fact
that Saudi Arabia is the world’s largest oil producer certainly has the market
worried.  Al-Qaeda has called repeatedly for attacks on Saudi oil centers which
means this may not be the last time that we hear of a shock to Saudi oil
infrastructure. 

Looking forward to the week ahead, we have an extremely busy
economic calendar which could very well take us out of this dull range trading
environment that we have been trapped in for the past week and a half.  Here in
the US, we are expecting the preliminary Q4 GDP report of which we are looking
for any revisions to the previous dismal Q4 advance release, home sales figures,
Consumer Confidence, Chicago PMI, Personal Spending, Personal Income,
Construction Spending, both of the ISM reports and the University of Michigan
Consumer Sentiment survey.

Euro

The Euro continued to grind lower throughout the US session. German consumer
prices came out right in line with expectations, growing by 0.4 percent month
over month in February with annualized inflation remaining unchanged at 2.1
percent, which was slightly higher than expected.  ECB officials speaking today
echoed most of the same comments made by ECB President Trichet over the past few
weeks.  A rate hike next week seems imminent at this point, especially following
Thursday’s strong IFO survey.  There is even some speculation that the ECB could
raise their inflation forecasts for 2007.  In the week ahead, there are a lot of
Eurozone data due for release including more inflation reports, unemployment
data, consumer confidence and German retail sales. 

Yet the highlight of the week is still the ECB’s monetary
policy meeting and Trichet’s accompanying press conference on Thursday.  The
rate hike itself is pretty much a given at this point which means that the main
event will actually be Trichet’s speech.  The market will be looking for signs
from the central bank head on whether he plans to wait a few months after the
rate hike before delivering the next one, like he did last time or if he feels
that the ECB will need to continue to remain vigilant with inflation which would
suggest that they will be following up with another interest rate hike
relatively soon.  If the ECB does remain hawkish, we could see a nice bounce in
the Euro.

British Pound

The British pound lost ground against the dollar despite some more optimistic
economic data.  The second release of fourth quarter GDP remained unchanged at
0.6 percent but GDP for the third quarter was revised higher form 0.4 percent to
0.5 percent.  Personal consumption and government spending both ticked higher
which is encouraging and supports the case that the Bank of England may be
closer to neutral than most people think.  UK department store chain John Lewis
and Grocery chain Waitrose also reported strong sales last week which confirms
the improvement in household spending. 

Bank of England Economist Bean warned that higher energy
prices could be here to stay, which would continue to squeeze margins and
inflation.  In the week ahead, unlike the rest of the world, the UK economic
calendar is relative light.  We are only expecting a few pieces of housing
market data, consumer confidence and the manufacturing and service sector PMI
reports.  

Japanese Yen

The Japanese Yen strengthened against the dollar for the third consecutive day. 
The rally has been so strong that it erased the past 3.5 weeks of losses.  In
addition to the hawkish comments from Bank of Japan Governor Fukui, the central
bank of China (PBoC) also announced last night plans to improve the Yuan
exchange rate mechanism, which would be another step that the central bank is
taking towards an eventual free float.  It has been reported that China may also
be issuing Yuan bonds in Hong Kong while more funds are beginning to increase
their exposure to China. 

Meanwhile adding to yesterday’s comments, Fukui said today
that the conditions for removing quantitative easing continue to come into place
and that they “cannot always be fearing failure.”  Regardless of what Fukui
says, this is really a test of where the power of monetary policy lies.  The
government has previously said that the BoJ is not independent, but the BoJ
after tempering their words for a few weeks have restarted their hawkish
comments in force, saying that as soon as their conditions for removing
quantitative easing are met, they will proceed promptly with changing policy.

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
analysis.