By DailyFX - US Dollar- Could the US dollar set a near term bottom this week? Quite possibly. Over the past two months, traders...

... have ignored the upside surprises in US data to focus exclusively on the strength of UK, Canadian, Australian, and New Zealand data.


This dynamic is based on the markets overall belief that the Federal Reserve has their hands
tied and their only possible response to stronger US data is to keep
interest rates unchanged at 5.25 percent for a longer period of time.
On the other hand, they believe that countries like the UK, Canada,
Australia and New Zealand have more flexibility to lift interest rates
if their economies continue to grow and if inflation remains a problem.
Upside surprises in UK and Canadian inflation data last week put greed
in the eyes of carry traders by spurring speculation that all four of
these countries could raise interest rates within the next month. This
week however could prove to be a reality check for these traders as they
begin to realize that these central banks may not be in as much of a
rush to raise rates as they expect. Australian producer prices have
already surprised to the downside while the Reserve Bank of New Zealand
and the Bank of Canada is expected keep interest rates unchanged this
week. This should serve as a reminder to those anticipating higher
yield that they will need to wait. The US dollar however could bounce
if US data surprises to the upside. Consumer confidence and existing
home sales are due for release tomorrow. The market is looking for both
numbers to disappoint, but the recent strength of the stock market,
increase in corporate profitability and the stability of the labor
market could lead to stronger rather than softer numbers. We are also
expecting the Beige Book report and Durable Goods later this week.
Inflation pressures should keep the Federal Reserve hawkish while the
weaker dollar could boost sales of Boeing aircrafts and other items made
to last for more than 3 years. The data releases tomorrow will determine
whether today*s dollar recovery continues.

Euro - After hitting a high of 1.3640 last week, the lack of any
meaningful economic data has led to more profit taking in the EUR/USD.
The initial French elections have delivered the results that the market
had been anticipating, which is an eventual runoff between Sarkozy and
Royal. The two candidates are neck to neck with Sarkozy holding a tiny
lead over Royal. French voters can be notorious for changing voting
habits between round one and round two, so either candidate still has
the chance of becoming Frances next head of state. A win by Sarkozy
would be short term bearish for the Euro, but long term bullish while a
win by Royal would be the exact opposite. To read more about why this
is the case, see our Special Election Report. Part of the Euros
slide today can be attributed to the recovery in the dollar, but the
other part is due to profit taking in EUR/JPY. The IFO survey of German
business sentiment is due for release on Wednesday. Even though the ZEW
survey reported stronger analyst sentiment, the recent strength of the
Euro could prompt businesses to be less optimistic. Although some
companies like Volkswagen have learned from their mistakes of under
hedging foreign exchange risk in 2004, many companies did not.
Paris-based LOreal recently reported that sales were up 7.9 percent
in the first quarter, but the details of their earnings data indicate
that the rapid rise of the Euro during the quarter actually produced a
negative 4.1 percent impact on sales. We suspect that L*Oreal was not
the only company to see their profit margins squeezed by currency
fluctuations and the IFO report could reflect that.

British Pound - Demand for dollars and yen has pushed the value of
the British pound lower despite evidence of stronger money supply
growth. Inflation has been a persistent problem in the UK, with
producer and consumer prices both surprising to the upside last week.
It is very clear that the Bank of England needs to raise interest rates
at least once, if not twice this year and this expectation should
continue to keep the pound strong going into the May 10th monetary
policy meeting. The BoE has a history of catching the market by
surprise, which may explain why some traders are looking for a more
aggressive 50bp rate hike next month. Although this is relatively
unlikely, it should not be a complete surprise. Meanwhile, the economic
calendar is relatively light this week with only the CBI industrial
trends survey, GDP and Nationwide house prices due for release. This
suggests that the value of the British pound could be dependent upon
whether the dollar continues to rebound and whether carry trades
continue to succumb to profit taking.

Japanese Yen - Expect the Japanese Yen to be a big focus of currency
traders this week. The initial wave of yen buying that has caused a
reversal in carry trades was sparked by S&P*s upgrade of Japans
sovereign debt rating from AA- to AA for the first time since 1975. We
are certain that the recent weakness in the Japanese Yen is a
contributing factor to their rosier outlook on the banking sector and
overall economic growth. Later this week, we have a tremendous amount
of Japanese economic data due for release. It is only a matter of time
before economic data begins to show the beneficiary impact of a weaker
currency. This weeks data has the potential to reflect the turn.
Meanwhile, keep an eye on the Dow. Over the past two months, we have
seen carry trades move in lockstep with the stock market index. The Dow
is struggling to break above the 13,000 psychological point of
contention and that may be partially due to the profit taking that we
are seeing in the currency market as both instruments are a reflection
of the markets demand for risk.

Commodity Dollars (AUD, NZD, CAD) * Australia*s disappointment in
producer prices triggered a sell-off in both the Australian and New
Zealand dollar. The strength of the Australian dollar has reduced
inflationary pressures which will relieve some of the central bank*s
urgency to raise rates. Consumer prices are due for release tonight and
if that surprises to the downside as well, the near term top in the
AUD/USD could be cementer. The disappointment could also prompt
speculation that the Reserve Bank of New Zealand will be less hawkish
Wednesday night after their rate decision. The Canadian dollar on the
other hand continues to strengthen as oil prices gap higher in Monday
trading. Expect leading indicators to come out strongly tomorrow, but
this will not result in any rate changes by the central bank.


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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