By DailyFX - US Dollar. Yesterday we had cautioned against celebrating the good ISM number prematurely and thank goodness for the warning since the dollar...

... gave back all of the previous day's
gains and then some.


The catalyst for the move is once again interest rates, but
this time from a slightly different perspective. The market is rallying the
currencies of countries that are expected to increase interest rates steadily and
continuously this year, like the Euro, Japanese Yen and Canadian Dollar while
punishing the US dollar because the Federal Reserve is nearly done. The first
interest rate hike since December of last year from the ECB has refreshed to traders
the notion that there is a new kid on the block who will be raising interest rates.
Recent data has been showing signs of slower growth here in the US which already has
some traders worried that the Federal Reserve has little chances of overshooting
interest rates, making 5 percent the likely cap. The only release out of the US
today was jobless claims which came in slightly higher than expected, rising 294k
compared to the market's 285k forecast. Tomorrow should be a bit more helpful for
the US dollar in allowing US fundamentals to take the drivers' seat for a while on
the back of the service sector ISM or the University of Michigan consumer confidence
reports. Meanwhile the big story today was really the Canadian dollar, which
rallied to a 14 year high against the US dollar. The combination of strong data
released this week and rallying oil prices has the market thinking about
opportunities in the Loonie once again, especially since Canada is also one of the
few central banks looking to continue raising rates consistently this year. A surge
in acquisitions is also fueling the CAD's rise. The country's deep pool of natural
resources is tempting everyone from Britain to China. Taking a look at a long-term
chart, USD/CAD may not find support until the November 29, 1991 low of 1.1190.

Euro

As expected, the European Central bank increased interest rates by a quarter of a
point to 2.50 percent. Even though Trichet tried to hold back from making overly
hawkish comments, the market interpreted his optimistic outlook on growth and the
central bank's higher revisions to mean that the ECB has full intentions to
continue tightening monetary policy. They expect GDP growth to accelerate to
1.7-2.5 percent this year and for inflation to be between 1.9-2.5 percent.
Furthermore, they also believe that inflation faces the risk of growing even more if
energy prices remain high. However, Trichet added that they did not decide on a
series of rate hikes and never precommits unconditionally. Yet, these comments were
pretty much shrugged off once he said that the ECB stands ready to "do what is
necessary" and interest rates are now still "very stimulative." With more interest
rate hikes ahead, the Euro has staged a strong rally today. In fact, the rally was
so significant that our FXCM Speculative Sentiment index actually flipped from net
long to net short. In our weekly release this morning, positioning was net long and
had remained so for the past month. Positions completely flipped by the end of the
day with the USD/CHF ratio short but near parity. This suggests that we may have
finally seen a true bottom in the EUR/USD.

British Pound

Like the Euro, the British pound staged a strong recovery today. However even
though the percentage gain in the British pound paled in comparison to the
percentage gain in the Euro, after starting the day deep in the red, the intraday
recovery was far more impressive. The only piece of economic data released from the
UK was the construction sector PMI index which increased from 50.7 to 51.9 last
month. This was slightly more than expected and continues to confirm the
stabilization that is occurring in the housing sector. If you recall, yesterday,
mortgage lending figures rose more than expected. As a service sector based
economy, tomorrow's service sector PMI survey will be worth watching to see if we
can get continued gains in the GBP/USD. Given the strength of today's recovery, we
would be surprised not to see an extension move tomorrow.

Japanese Yen

Tonight is a big night in Japan with a number of key economic data due for release.
We are expecting the consumer price index, workers' household spending, labor cash
earnings and the jobless rate. Any of these pieces could move markets
independently, but collectively, they pose a bigger risk for the Japanese Yen. The
unemployment rate is expected to remain unchanged at 4.4 percent, but workers
household spending is expected to jump significantly. The most important number to
watch however will be the consumer price figures. It is no secret that the Bank of
Japan is looking for positive CPI before increasing interest rates. Therefore, if
we get a nice jump in consumer prices, we could also see a nice pop in Yen. In an
environment where the market has just turned bearish dollars, strong Yen data could
send the USD/JPY currency pair tumbling down to 115.


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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