By DailyFX - US Dollar. Much like yesterday, the performance of the US dollar has been mostly mixed against the majors. The Euro gave...

... back some of last week's gains as trading continues to remain very quiet.

The dollar gained strength after the surprisingly sharp rise in
leading indicators for the month of January. Expected to only increase by 0.6
percent, leading indicators jumped 1.1 percent with an additional upward revision
for the data released the previous month. Last week's list of stronger economic
data including retail sales, manufacturing sector surveys and a low jobless claims
report continue to support the case for solid first quarter GDP growth and possibly
even a nice revision to the weak number that we saw last month. However, the dollar
rally was limited as the FOMC minutes created an air of uncertainty. Even though
the Federal Reserve was optimistic on growth and confirmed that "some further policy
firming may be needed," outgoing Fed Chairman Greenspan did take this opportunity to
warn that the housing market poses a risk to demand and that monetary policy "seemed
close to where it needed to be" and as a result, "rate moves can't be prejudged with
past confidence." This slight tinge of neutral-ness threatens expectations for a
May rate hike, but given that these opinions reflect the FOMC under Greenspan and
not Bernanke, the market is not entirely convinced that the March rate hike will be
the Federal Reserve's last. Thankfully tomorrow's consumer price inflation report
has the potential to stir up the markets a bit. After the sharp rise in producer
prices reported last week, the market is now anticipating a nice jump in CPI. If
the report fails to meet expectations for higher inflation, the dollar could
continue to give back some of its gains. On the other hand, if headline consumer
price inflation grows by more than 0.5 percent and core inflation grows by more than
0.2 percent, then we may finally see the dollar resume its rally.

Euro

Despite another dose of mostly better economic data, the Euro failed to register any
gains against the dollar. The Eurozone reported a narrower trade deficit of -EUR 900
million compared to the market's forecast of *EUR 1.9 billion for the month of
December. The deficit for the month of November was also revised lower. Meanwhile
France also grew by 0.2 percent in the fourth quarter, which was right in line with
expectations, but consumer prices fell by a less than expected 0.1 percent last
month. ECB officials continued to call for a rate hike in March with both Garganas
and Wellink chiming in today. Wellink's comment was probably the clearest, as he
said that "monetary policy should be proactive" in the current environment of "ample
liquidity, low interest rates and persistently high oil prices." Yet even though we
know with near certainty that the European Central Bank plans to raise interest
rates in March, the Federal Reserve is also expected to do the same and then
possibly tighten again in May. Therefore at this point it seems unlikely that for
the ECB's interest rate hikes to give much momentum to the Euro unless the Fed stops
raising rates, leaving the ECB as the only hawkish central bank of the two. This
shift in dynamic is probably not expected until the second half of this year.

British Pound

For the third consecutive trading day, the British pound strengthened against the
dollar and completely decoupled from trading in tandem with the EUR/USD. Mergers
and acquisition flows are helping to keep the pound bolstered, but most of the
careful upward momentum has stemmed from expectations that the Bank of England
minutes due for release tomorrow could be a bit more neutral than the previous
release. Economic data has been very mixed, but as we mentioned yesterday, although
the BoE voted to keep interest rates unchanged for yet another month, the balance of
the votes could very well shift this time around. At the last meeting that the
minutes were published for, BoE member Steve Nickell was the only voter to favor an
interest rate cut. For this meeting, forecasts are very divided with some analysts
calling for more members to vote in favor of a rate cut while others predict that
Nickell could have voted to leave rates unchanged at the time, which would shift the
vote for no change from 8-1 to 9-0.

Japanese Yen

Once again the dollar continued to rally against the Japanese Yen despite a 450
point rise in the Nikkei overnight. After two days of back to back losses, last
night's rebound was certainly encouraging. Convenience store sales were the only
economic data released last night and for the 18th month in a row, store sales
printed negative. With no end in sight for the tug of war between the Bank of Japan
and the Japanese government, there seems to be little that can help the Yen in the
immediate future other than a breakdown in the US dollar component of the pair. Of
course, an end to quantitative easing or rumors of an economic outlook upgrade by
the Japanese government could help the Yen a tad, but probably not enough to cause a
complete reversal in trend. Improving economic data is something that we have been
seeing for weeks and the Yen has reacted little.


Kindest Regards,

Kathy Lien
Chief Strategist
Forex Capital Markets LLC
32 Old Slip, 10th Floor
New York, NY 10004
Tel (212) 897-7660
Fax (212) 897-7669
E-mail: klien@fxcm.com
By DailyFX

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