DIMINISHING RISK APPETITE FAVORS THE DOLLARS

Today’s FX View from IB:

Tuesday is starting out to be another one of those days investors turn to the solace of the dollar when they suddenly appear to run out of reasons to buy an alternative. And today is providing a fistful of reasons for the faint-hearted to favor the dollar. Equity prices are lower and investors are starting to fear that reasons to justify continued buying are few and far between. German confidence slipped prompting an economist to conclude a first quarter contraction and Britain’s top banker remains rather concerned over the fragile health of the economy. The Swiss central bank may have been selling its currency in Asia. And while the Aussie had some good news, partygoers aren’t in the mood to go dancing alone.

Euro – The euro got off to a cracking start by reaching very close to $1.37 versus the dollar this morning. However, it only took a tip over the edge for the German IFO business confidence index to put the euro in the cross hair. Moreover, it was a stark warning from the IFO economist who noted that Germany possibly experienced a first quarter contraction that appears to be behind deeper weakness as the euro fell to $1.3550.

Weakness in Euroland share prices played off the less than enthusiastic business climate and current conditions data with investors left pondering where growth might com from. It’s certain that some of the negative news surrounding the Greek fiscal situation has had some degree of impact but in reality this is highly likely to be a small measure.

U.S. Dollar – Dealers continue to ponder the inter-meeting decision by the Fed to raise the discount rate last week with light-trading indicating that most want to hear further explanation from Mr. Bernanke who starts his two-day testimony on Wednesday. Dealers will be listening for any further clues about the timing of further interest rate moves. San Francisco Fed President Janet Yellen described the ongoing need for extraordinarily low interest rates due to an “undesirably low” rate of inflation. Affirmation of that position in tomorrow’s testimony would probably cause some dollar selling as dealers will quickly pare back rising rate expectations, which are largely psychological at present as opposed to being a fear priced into the yield curve.

The dollar broke sharply higher against a Swiss franc that may well have been sold according to dealer reports in Asia. The dollar jumped to $1.0780. Meanwhile against the Japanese yen it slipped to ¥90.65 as pre-market equity index futures responded to increasing risk aversion in light of the German IFO data.

Aussie dollar – Australia is in the sweet spot. Business leaders felt for the longest time that its economy was likely least impacted by the financial recession and the mere slowdown in its growth – as opposed to outright contraction – ultimately proved them right. The measures put to work in China to offset falling global demand for its exports include long-term infrastructure projects, which are also a necessary part of a bigger domestic expansion as China becomes a major world power. And feeding China many of the raw materials necessary to build out its infrastructure is Australia.

Overnight the Reserve Bank of Australia’s Deputy Governor Ric Batellino said that the economy was enjoying what could be a mining boom that lasts into the next decade. Of course that was like throwing high octane gasoline on the raging fire in terms of fueling buyers’ appetite for the local dollar. The Aussie jumped to its highest in three weeks surging as high as 90.71 U.S. cents before realizing that global investors weren’t feeling equally inspired about broader recovery prospects. Mr. Batellino pointed out the need for Australian authorities to be disciplined in containing resultant price pressures the boom may generate, while acknowledging that a rising dollar was acting to dissipate price pressures.

Canadian dollar – The Canadian dollar lost ground to the U.S. dollar and awaits minor trade data this morning. Forecasts call for a narrower deficit of C$8.9 billion in the fourth quarter compared to C$13.1 billion owing to greater export volumes as commodity prices recovered. The Canadian dollar buys 95.81 U.S. cents this morning and is taking its cue from weakness in crude oil despite the fact that crude settled above $80 per barrel yesterday.

British pound – Sterling continues to make session lows after Bank of England Chief Mervyn King spelled out just how weak the British economy remains. The risks to the MPC’s central view remain to the downside, which is not where the Bank would like to be at this stage of the game. This revelation is in stark contrast to the predicted 3.5% growth rate predicted yesterday by the Fed’s Janet Yellen with respect to the U.S. economy. Where is all of the British growth lurking? The pound fell beneath $1.5400 briefly and could well have another run at last week’s $1.5350 low before very long.

Japanese yen – The yen rose against the dollar as risk aversion made a cautious appearance on the scene. Earlier, minutes for the recent Bank of Japan meeting reaffirmed that the central bank would maintain extremely low interest rates and continue to buy an equivalent amount of almost $20 billion worth of government bonds monthly. The yen strengthened to ¥123.22 against the euro and ¥140 against the British pound.