Forex News Week 50-1

USD Extends Correction by Korman Tam

 The dollar opened the week on firm footing, extending Friday’s advance across the board. The false break to the downside and sharp reversal following the upbeat November jobs report caught many traders off-guard, with the greenback quickly recovering its losses and staging a corrective bounce after nearly two-weeks of steep losses. The dollar strengthened in early Monday trading to its highest levels since November 30th versus the euro near 1.3140 and the sterling at 1.9477. We anticipate further gains in the week ahead given the economic events slated for release, particularly the FOMC monetary policy announcement.

Although no change is expected in the Fed’s monetary policy when it announces its decision on Tuesday afternoon, the dollar will continue to be supported as it retraces losses from recent weeks. The accompanying Fed statement is seen maintaining its hawkish bias against inflation, especially following upbeat data from non-manufacturing ISM and payrolls. Further, Chairman Bernanke is likely to dissuade sentiment for any impending shift in stance, instead stressing the continued need to remain cautious against risks to inflationary pressure. The recent mixed batch of US data helps to reinforce the Fed’s upbeat assessment of the economy and the likelihood for a soft-landing, thus benefiting the dollar.

Economic data to be released this week is also seen supporting the dollar, with Tuesday’s October trade deficit forecasted to shrink to $63.0 billion from $64.3 billion. On Friday, CPI is seen largely unchanged from the previous month while the October TICS report is expected to reveal an increase to $72.8 billion from $65.1 billion. While the Treasury’s report of foreign net securities purchases is from two months ago, it highlights growing foreign appetite for US securities, and as such, consistent demand for dollars.

The Bank of International Settlements (BIS) released its quarterly review, revealing a significant shift in US dollar holdings by oil producing countries to its lowest level in two years, instead favoring the euro, sterling and yen. The revelation comes as little surprise given the heightened discussion by global central bankers for possible FX diversification away from US dollars. The report revealed a large reduction in dollar holdings for both Qatar and Iran, down $2.4 bln and $4 bln, respectively. On the whole, Russia and OPEC nations reduced US dollar reserves to 65% in Q2 from 65% in Q1, while bolstering holdings in euros to 22% from 20%.

Another event risk for this week will be US Treasury Secretary Paulson and Fed Chairman Bernanke’s visit to China, in which the primary topics of discussion will be currency flexibility and global trade imbalances. On Friday, Paulson reiterated the Administration’s strong dollar policy and called for greater flexibility in China’s FX regime, thus setting the tone for this week’s talks with China’s President Hu and Premier Wen.

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