Dollar rebound continues driven by positioning, peripheral woes

Tom Tong16/May/2011Currency Updates

Financial markets were hit last week by a variety of troubles. Further signs of a weakening US consumer, confirmation of a rather severe slowdown in the UK economy and continued turmoil in the EMU periphery were the standouts. However, most risk assets still display remarkable resilience. Equities worldwide continued to trade in a tight range, and commodity prices appeared to stabilize following the previous week’s rout. In FX markets, however, the still stretched short USD positioning among trades, together with the increasingly compelling valuation of the greenback buoyed the USD which rose for the second week in a row.

GBP

It was another week of disappointing economic data out of the UK. Industrial production rose less than expected in March, leaving the YoY number essentially flat, and stuck far below pre-crisis levels. This is particularly disappointing in view of the significant devaluation experienced by sterling in the interim. The Bank of England’s inflation report came out last week, revising the inflation forecast up and the growth forecast down – an unhealthy combination. Furthermore, it acknowledged that the BoE has been somewhat surprised by the weakness in housing price, and names this as a key uncertainty. All in all, it was a difficult week for sterling, which ended the week down 0.5% in trade-weighted terms.

EUR

It was another very difficult week for the common currency, too. The realization that the Greek bailout package agreed to a year ago has failed has not been accompanied by a clear prescription of what will replace it. The spectacle of ECB and Euro officials insisting against all evidence that Greece will not restructure its debt did little to inspire confidence in markets. Even the generally stronger than expected first-quarter GDP numbers on Friday failed to stabilize the euro, which ended the week down over 1.5% against the dollar and also lost over 0.5% against sterling.

USD

The greenback continues to rebound, driven by two main factors: 1) The still heavy short dollar positioning in markets, where the consensus of traders and strategists has been for quite some time that the USD is headed down and 2) unresolved peripheral woes in Europe, which undermine the euro’s claim to be an alternative reserve currency to the dollar. Both factors were operating in full force last week and the greenback gained a solid 0.7% in trade-weighted terms.

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Written by Tom Tong

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