US Dollar Eases Back on ISM, But Price Component May Limit Downside

· US Dollar Eases Back on ISM, But Price Component May Limit Downside

· Euro Mildly Higher Despite Weaker PMI Manufacturing
· Japanese Tankan Survey Reflects Dwindling Sentiment

US Dollar – Following Friday’s knock-down-drag-out day for the US Dollar, today’s market action was remarkably sedate as the greenback meandered slightly lower against most other currencies. Indeed, the data on hand left cause for confusion amongst traders as ISM Manufacturing slipped more than expected to 50.9, signaling a slowdown for the sector. A breakdown of the report was even more daunting; both the new orders and employment components declined, indicating that demand has diminished and the labor market has slackened. Furthermore, the prices paid figure jumped to a seven-month high of 65.5 on the back of mounting fuel and metals prices. With expansion clearly cooling and prices steadily rising, the Federal Reserve will be left in a precarious position: should they cut rates to ease pressures on consumers and businesses or hike rates in order to combat inflation? St. Louis Fed President William Poole may have already given an answer, as he said today, “There would have to be a high hurdle for me to want to be cutting rates if the economy is only marginally and tentatively on the weak side." Nevertheless, the US Dollar has generally remained unresponsive to the Fed’s hawkish rhetoric as the markets may be taking his commentary as paying lip service in order to sound tough on inflation. If anything, the Fed is more likely to leave rates steady in order to gauge the effect of current monetary policy on the economy, but crude prices above $65/bbl and potentially rising creates a clear tightening bias.

Euro – The Euro worked mildly higher throughout the day, as the currency has been resistant to test 1.3400 again amidst a slew of tepid economic releases out of Europe. PMI Manufacturing for the Euro-zone slipped slightly to 55.4 from 55.6 during the month prior while Germany, France and Italy all suffered similar declines. Although the index remains well above expansionary levels, the news suggests that higher exchange rates and increasing energy costs may be starting to have an impact on demand and production. Regardless, rising inflation has left the European Central Bank maintaining a staunch tightening bias with expectations for a 25 basis point hike to 4.00 percent gradually rising. However, with the highly nationalist French presidential campaign in full bloom, some candidates have harped upon the negative impact of a strong Euro and the need to take action in order to devalue the currency. This theme has the potential to resonate with voters in the Euro-zone and could put political pressure on the ECB to curb their tightening activities. Nevertheless, until then, economic data remains strong enough to allow the central bank to operate without hindrance and should leave Euro bid.

British Pound - Action in the British pound ran contrary to bearish manufacturing sector data in the overnight. Boosted by interest rate hike speculation, the currency ran above the 1.9665 session low, trading currently well above the 1.9700 figure. For the month of February, the purchasing managers’ index surprised the market, declining more than expected and posting a 54.4 reading versus expectations of a dip to 55.1. Incidentally, the results were below the previous month’s 55.4, indicting a slowdown in the sector for the month. Widely bearish for the economy, it was a relatively unknown report that helped reverse market sentiment. According to government reports, mortgage equity withdrawals climbed to the highest since the first quarter of 2004. Rising to 14.6 billion pounds, the secured withdrawals, likely used in financing properties, boosted the sentiment that consumer spending will continue on rising property values. Speculation, in this instance, followed futures contracts which have already begun to price in a plausible two rate hikes by the end of the year. Ultimately, the report helped in supporting the possibility of a surprise rate hike ahead of this week’s meeting as well as heightening further carry trade notions.

Japanese Yen - The Japanese yen seemed a little restricted, caught in a tight 30 point range for most of the overnight and New York, leaving yen traders wanting more. Attributed to the mixed bag of activity was a rather convoluted Tankan survey for the first quarter. Japan’s gauge of business sentiment was hit by a setback, declining from the highest in two years. Attributed to notions of a global slowdown negatively affecting the export sector, the survey’s sentiment index dropped to 23 points compared to the previous 25. However, comparably, the capex or business investment figure rose 2.9 percent compared to consensus estimates of 1.7. Although widely lower than the 12.4 percent in the previous report, the slight increase still suggests that business investment remains strong as companies continue to meet current demand. This one fact is keeping yen traders on the bullish side as inflationary pressures are likely to tick higher should investment trickle into higher wages in the near term. Until then, the currency will likely keep a non-directional bias heading into London.

Commodity Dollars (AUD, NZD, CAD) – Kiwi and Australian dollars continued to make headlines with the Australian dollar taking out the 0.8110 figure and trading significantly higher during the session. Comparatively, the Canadian dollar ran counter to the Bloc’s bullish bias, declining slightly against the US dollar on profit taking and stalled crude oil prices. Helping to continue last weeks’ momentum in the AUD, were retail sales figures for the month of February. Rising by over double the consensus estimate, the report printed a 0.9 percent advance in the month compared to expectations of 0.4 percent, marking the longest expansion run in five years according to the Bureau of Statistics. The figure was subsequently supported by home building permits, which made the biggest monthly jump since the tail end of 2003. Both reports helped to feed rate hike expectations, which now remain higher, as inflationary pressures are likely to remain at 3.5 percent in the near term. The notion helped to boost the Kiwi dollar as the two economies tend to shares similar cyclical themes.