Monday, May 12, 2008

Will the dollar break 1.50 against the euro any time soon?

In the currency market the sentiment is slowly shifting towards a slight improvement in the greenback amid signs that the European currency euro might be at or near its peak. In April we reported about a shift in the speculative sentiment index to a net long position in the euro/dollar currency cross. On April 29 speculative positions on future contracts betting that the greenback will gain against the euro were 21,315 net long contracts. There were net-short positions in each of the previous 123 weeks. specualtive sentiment index

Option buyers are also betting that the euro will decline further. The so-called risk- reversal rate had a 0.44 percentage point premium for euro puts relative to calls on May 9. In the prior month the the premium pay were in favor of euro call options.

Two factors are playing into the recovery of the dollar. One, the credit crisis is slowly abating and two, in its latest rate setting meeting the Federal Reserve hinted towards the possibility of a pause. Interest-rate futures on the Chicago Board of Trade show an 84 percent chance the Fed will keep its target unchanged at 2 percent when policy makers next meet on June 25, with the balance of the odds calling for a quarter-percentage point cut. A Bloomberg survey of economists shows that the EZB will probably lower its main refinancing rate to 3.75 by the end of September.

Extrem positions in future contracts are often seen as contrarian indicators. The last time net longs were that high, in December 2005, the dollar was near an end of a one year rally against the euro. Traders are also talking about a slightly oversold euro. Central banks especially from oil producing countries viewing the euro at this level as a cheap buy.

Another contrarian indicator the COT index for the euro currency is at extreme low levels. COT over the last 52 weeks is at 2 and over the last 13 weeks is at 8. This Index is the percentile of the difference between net speculative positioning and net commercial positioning measured over the last 52 weeks. A reading close to O suggests that a bottom is forming and a reading close to 100 suggests that a top is forming.

Commercial positions are from large cooperations who use the currencey markets to hedge their exposure to foreign currencys.

To conclude where the currency crosses will be headed next much will depend on the US economy and whether the Federal Reserve can pick up its inflation fighting mandate any time soon. There are many Fed speakers on the wires this week, but as long as there is only talk we don't see any real recovery in the dollar just yet.

read also: Euro SSI Flips For The First Time Since 2006

source: Euro and Pound Positioning are Bullish

source: Dollar Bulls Gain Control as Euro May Be Near Peak

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