Saturday, August 8, 2009

FOREX VIEW: Dollar May Hold Strength From Friday's Rally

TORONTO (Dow Jones)--A full slate of U.S. economic data next week will test the freshly minted view that the dollar is beginning to benefit from signs of economic recovery, reversing a market tendency that has held over the past year of recession.
The dollar and stocks both rallied sharply on Friday when the U.S. employment report for July came in better than expected, igniting a fresh round of investor optimism.
The tide of funds into the dollar was driven by the notion that a reviving U.S. economy may be ready to spearhead a climb out of the global downturn, which would also mean a quicker return to higher U.S. interest rates. This emergent view derailed the previous trend of positive data surprises igniting a thirst for riskier assets at the expense of the safe-haven dollar.
"This was maybe a hint of things to come for the dollar," said currency strategist Sacha Tihanyi of Scotia Capital, even if the greenback's longer-term outlook remains murky at best. "We are eventually going to reach a point where the risk flow won't push things around as much, and we may be closer to that point now."
If so, there will be abundant opportunities to test that proposition in the U.S. data flow next week. It will also help ascertain if Friday's break higher for the dollar was only fleeting or marks a decisive trend reversal.
Key U.S. data include the goods and services trade balance for June on Wednesday, July retail sales and the latest jobless claims figures Thursday, followed by the July consumer price index, industrial production figures for the same month, and a key measure of consumer sentiment on Friday.
Other significant events are the announcement at the end of the Federal Reserve's two-day policy meeting on Wednesday, as well as the market reception given the Treasury's massive $75 billion quarterly refunding effort over the course of the week.
The Fed next week isn't expected to deviate from its commitment to hold its key policy rate at exceptionally low levels for a prolonged period nor to fine tune its $1.75 trillion asset purchase program.
But crucial for currency and other asset markets will be whether the Fed's updated economic prognosis together with next week's data stream advances the likelihood of a U.S.-led global recovery and more favorable yield spreads between U.S. debt instruments and competing foreign assets.
"If the U.S. economy begins to lead the global economy out of recession, the dollar could benefit as it did in the wake of the Southeast Asian crisis of 1997-98," when the greenback was the preferred currency in the subsequent period of recovery, said chief currency strategist Michael Woolfolk of Bank of New York-Mellon.
Currency strategists at Brown Brothers Harriman said a sustained turnaround for the dollar may have to await a more consistent flow of better data and upwardly revised projections for U.S. economic growth, coupled with a rise in short-term Treasury yields above euro-zone counterparts.
More in the near term, Scotia Capital's Tihanyi expects the dollar to at least consolidate at stronger levels against its major rivals next week, suggesting a range of about $1.4000 to $1.4350 against the euro and Y95.80 to Y98.50 against the yen.

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