Dollar Range Bound

Good day… Chuck had a rough night, so he decided to stay home and try to get some rest. The Pfennig will be pretty short this morning, as I want to try and get it out as close to the regular time as possible. The currency markets were fairly calm yesterday, with the dollar staying in a pretty tight range before rallying some in early trading this morning.

The euro (EUR) has lost some ground in European trading as German business and consumer confidence fell more than economists forecast. The Ifo institute’s business climate index dropped to a three-year low in July and consumer sentiment slumped to the lowest level in five years. Some currency traders pointed to these latest reports as further proof that Europe is slipping into recession, and that the ECB will need to cut rates before year-end. It is obvious by now that the economies of Europe are weakening, and growth will not be able to match last year’s numbers. But I still believe that Trichet and the other voting members of the ECB will continue their hawkish bias, and I don’t expect any interest rate moves until sometime next year. This should keep the euro from falling dramatically away from these current levels.

One advantage of writing this so late in the morning is that I can report on the numbers that came in today. We are expecting a plethora of data today, and have already received the CaseShiller Home price index, which continued to drop. But the rate of the fall in U.S. home prices has slowed, giving some economists reason to say that the worst is over in the housing crisis. But other economists are warning investors not to read too much into the slowing of the decline in prices. The National Association of REALTORS said yesterday that the median price of an existing home fell 7.1% in July from a year earlier, compared with a 6.1% drop in June.

We will continue to receive data on the housing market later this morning, as we will get July’s New Home sales, House Price index, and the second quarter house price purchase index released in about a half hour. None of these numbers are expected to show a rebound in the housing sector, but the markets just want to see the numbers do better than the horrible expectations. Again, even if the numbers come in better than expected, they will almost certainly show the housing market is going to continue to slide.

Later this afternoon the FOMC will release the minutes of their August 5th meeting. It will be interesting to read just how fractured the FOMC is, with regard to the trade-off between fighting inflation and trying to stimulate growth. Bernanke has done an excellent job so far of keeping the members in line with most of them singing from the same song sheet. The recent drop in commodity prices should make Big Ben’s job a little easier, as it will calm some of the inflation fears. I still question just how long the drop in commodities will continue. China and the other emerging economies continue to grow at near double-digit rates, which will likely continue to put upward pressure on the price of raw materials. I don’t think inflation is whipped, but is just taking a breather.

Oil prices erased an earlier loss and increased, bringing the Canadian dollar (CAD) up also. The Canadian dollar was the best performing currency yesterday, strengthening versus all of the most actively trading currencies. Commodities account for more than half of Canada’s export revenue, so the recovery in oil helped it rally.

Two other commodity-based currencies didn’t fare as well, as both the New Zealand (NZD) and Aussie dollars (AUD) declined for a second day. The Australian dollar slid toward a four-month low and New Zealand’s currency fell to its lowest in more than a week on speculation that investors will continue to reverse carry trades. The overriding fear in the markets right now is that both the AUD and NZD central banks are going to cut rates, making the currencies much less attractive for investors who purchased them for the high yields. Many Asian investors have used these currencies to earn higher yields than what is available in their home currencies, but currency traders now worry that these ‘carry trade’ investors will be exiting these investments as the central banks of New Zealand and Australia cut rates. The New Zealand central bank has already started down the ‘rate cut’ path, and most believe that the RBA will be cutting rates by a quarter point at their meeting on September 2. If commodity prices continue to fall and the RBA does cut rates, the Aussie dollar will remain under short-term selling pressure.

U.S. labor secretary Elaine Chao said the Bush administration will keep pressing China to let the renminbi (CNY) strengthen at a faster pace to help close the U.S. trade deficit. The renminbi has moved up 6.7% this year against the U.S. dollar, and has appreciated almost 21% since the end of its dollar peg in 2005. But recently the Chinese have slowed the renminbi’s appreciation, letting it slide 0.4% against the dollar since Chinese leaders stressed on July 25 that maintaining steady growth is as important as combating inflation. U.S. Treasury Secretary Hank Paulson said last week that U.S. lawmaker’s proposals to punish China for depressing the value of its currency might spark an unproductive ‘trade war’. Growth will be slowing in China, but I still think they will be able to maintain a growth rate just under double digits. This rate will be high enough for China to continue to allow a slow and steady appreciation of its currency. We have been saying all along that this currency will be a slow and steady performer, and not to expect any quick or dramatic moves. I continue to believe this is the path the Chinese will take.

Like I said at the beginning, this is a short one today. It is getting pretty late and I know many of you like to enjoy their Pfennig with their morning cup of coffee, so I’ll end it here and move on to the currency round up.

Currencies today 8/26/08: A$ .8540, kiwi .6935, C$ .9535, euro 1.4634, sterling 1.8373, Swiss .90670, ISK 83.34, rand 7.8118, krone 5.4086, SEK 6.4087, forint 161.45, zloty 2.2737, koruna 16.76, yen 109.65, baht 34.22, sing 1.4226, HKD 7.8077, INR 43.85, China 6.8510, pesos 10.17, BRL 1.6390, dollar index 77.335, Oil $114.60, Silver $13.32, and Gold… $813.03

That’s it for today… Sorry for the late delivery, but better late than never! Hopefully a little rest will get Chuck back on track, this last round of medicine has been tough on him. Cardinals have an opportunity to charge back into the playoff race tonight, as they take on the Brewers who are just ahead of us in the wild card race. Hope everyone has a Terrific Tuesday!!

Chris Gaffney
August 26, 2008

The Daily Reckoning