Euro Recedes Off Record Highs - Correction Coming This Week?

[U][B]Talking Points[/B][/U]

  • Japanese Yen: Tankan better but carry controls yen
  • Euro: PMI Manufacturing continues to drift lower
  • Pound: PMI in line, lending softer
  • USD: ISM Manufacturing on tap

The EURUSD reached yet another record high hitting 1.4284 in Asian trade today. It now takes only 70 euro cents to buy 1 US dollar. However, once the pair reached that milestone it traded down correcting 50 points in early European session as profit taking kicked in.
Despite its seemingly invincible veneer, the euro faces a host of challenges this week in its quest to reach the 1.4500 figure, not the least of which is the growing realization that the strength of the currency is beginning to hurt the manufacturing sector. Today?s EZ PMI printed at 53.2, its lowest reading in well over a year and within striking distance of the 50 boom/bust line. More troubling, the French PMI contracted sharply to 50.5 from 52.0 suggesting that French industry is on the brink of a recession. Little wonder then that France has been the most vociferous opponent of a stronger euro.
Given this dynamic the ECB is unlikely to adopt a particularly hawkish posture at its monthly rate announcement meeting this Thursday. While President Trichet as always will refuse to precommit to any specific course of action, the net result of the combination of rising euro and slowing economic growth in the Eurozone should keep the ECB stationary for the rest of 2007. With little fresh news to push the euro higher, currency traders began locking in some profits on the assumption that the unit may need to correct some of its overbought conditions this week.
Meanwhile in Asia the TANKAN survey in Japan printed better than forecast at 23 versus consensus expectations of 21. The credit crunch conditions that have affected the EZ and US, appear to have had little negative impact on Japanese manufacturers. And although the outlook component drifted down to 19, offsetting some of the positive effects of the headline number, other Japanese data continued to show improvement. Wage data increased for the first time in nine months indicating that corporate profits may be finally filtering down to the wallets of the Japanese labor force raising hopes of better consumption trends in the months ahead.
Despite the brighter outlook the yen continued to be sold on carry trade flows as demand for the high yielders outweighed any economic considerations. However, this is the second consecutive upside surprise from Japan in less than a week and should Japanese should Japanese data continue to improve the BOJ may consider a rate hike before the year end. Should that occur the yen would likely strengthen as interest rate differentials compress further. For now the unit continues to trade primarily on risk appetite/risk aversion dynamics but improving economic results could slowly start to change that trend.