By DailyFXUS Dollar - The price action in the US dollar over the past week suggests that there may no longer be any buyers left...

... in the market.

Nearly every piece of US economic data has
surprised to the upside, highlighting the overall strength of the economy.
Improvements have been seen everywhere from housing to manufacturing to the labor
market, consumer spending and inflation. According to the University of Michigan
Consumer confidence report, optimism hit a 3 year high in the month of January.
Comments from Federal Reserve Presidents Hoenig and Bies also continued to confirm
the markets general belief that interest rates will remain unchanged throughout
the first half of the year. Both Presidents felt that improvements in the economy
should keep inflation risks skewed to the upside. All of this should have been very
positive for the US dollar, but it wasnt. Except for the Japanese Yen, the US
dollar either lost value or remained unchanged against every other major currency.
This counterintuitive price action can only be a result of either central bank
buying or skepticism about how much longer this dollar rally can last. Technically,
the inability of the EUR/USD to break below last Fridays low has not helped
either. A quiet data week ahead makes the chance that the US dollar could resume
its prior rally even slimmer. The only major piece of data due for release is
durable goods on Friday, but there are 2 wild cards worth watching. The first is
oil. Crude prices are hovering slightly above the key $50 a barrel mark. Should it
break below that, we could see oil prices spiral lower as stops get triggered, which
would also send the US dollar higher. The second is President Bush. He will be
giving his annual State of the Union Address on Wednesday. He is likely to pat
himself on the back for the improvements in the economy, but without a Republican
Congress, it will be interesting to see how he tackles the political and economic
landscape going forward.

Euro

Despite a week of stronger US economic data, the Euro still managed to rally 4 out
of the past 5 trading days against the US dollar. Even though the comments from
European Central Bank officials have been moderating which indicates that they could
be slowing down their pace of tightening, the latest comments still confirm that
they are on track for at least one more interest rate hike. Nearly all of the
Eurozones monetary policy members have said that rates still remain low, but
Garganas indicated specifically that inflation may increase back above 2 percent or
more this year while growth may be near or above potential. This will force the
central bank to act as he said in a “timely, prompt manner if needed. He also
noted that the futures market is currently pricing in a 100 percent probability of a
March rate hike. Given his verification that the central bank likes to prepare the
markets for a move, he would not be making such hawkish comments unless the ECB
planned to deliver to the markets what they expected. Unlike the US, there are a
number of important pieces of data due for release next week. This includes the
German IFO report, French Consumer Spending, Business Confidence and Eurozone money
supply. Garganas warned that the ECB is monitoring M3 money supply growth extremely
closely for signs of inflationary pressures.

British Pound

It is clear that the rally in the British pound has become very exhausted given the
currencys lack of a reaction to the firm retail sales and money supply figures
released this morning. Retail sales increased 1.1 percent in the month of December,
which was close to double market expectations. Money supply growth was only
slightly stronger than expected, rising 0.9 percent versus 0.8 percent expected.
After the surprise interest rate hike earlier this week, these upside surprises have
been essentially priced into the market. There was a very slim chance that the Bank
of England would have raised rates if consumer spending was not strong. Instead,
traders paid more attention to the softer mortgage data which points to potential
weakness in the housing sector. After the drop in prices reported by the RICS and
Halifax housing market surveys, the market has already become concerned about the
stability of the UK housing sector. The mortgage data only exacerbates this worry
and having been the sector that has led the recovery, its potential weakness has
now become very worrisome.

Japanese Yen

The Bank of Japans decision to leave interest rates unchanged is still resonating
in the markets as the Yen extends its slide against the majors. USD/JPY has hit a
four year high while EUR/JPY came with 20 pips of its all-time high on an intraday
basis. The markets are continuing to look to February for a potential rate hike.
Overnight index swap futures which can be extremely volatile pared back expectations
from 70 to 56 percent. Next weeks data will play a major role in clarifying the
potential timing of the next rate hike with consumer prices due for release. Any
signs of inflationary pressures will send rate hike expectations and the Yen
skyrocketing. If inflationary pressures continue to subside however, those same
expectations could sink towards zero. The BoJ will also be releasing their minutes
from the December meeting while many BoJ officials are set to speak in the week
ahead.

Commodity Currencies (CAD, AUD, NZD)

The commodity currencies are finally responding to the rebound in commodity prices.
They are stronger across the board even though economic data from all three
countries disappointed. New Zealand reported a larger than expected drop in retail
sales, which was also the first drop in 7 months. Australia reported a much weaker
rise in export prices and a larger drop in import prices, signaling that
inflationary pressures are subsiding. Canada also reported a smaller than expected
rise in wholesale sales due to a drop in demand for agricultural and farming
products. The Reserve Bank of New Zealand will be conducting a monetary policy
meeting next week. Given the drop in retail sales and the drop in consumer prices
we saw earlier in the week, there is little chance that the central bank will change
interest rates from their present level of 7.25 percent. Meanwhile, Australia and
Canada have inflation reports due for release; Canada will also be releasing their
retail sales report.



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

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