Take 2 of Bailout Drama Drives Euro Below 1.40

It is the beginning of the fourth quarter and demand for US Dollars continues to be voracious, driving the EUR/USD below 1.40. In less than 2 weeks, the most liquid currency pair in the world has fallen close to 6 percent or more than 8.5 cents (850 pips).

However the dollar is not strong against everything. I have argued that in this current environment, the Japanese Yen should be the best performing currency. Therefore I expect the dollar to weaken against the Yen especially as the Dow continues to tumble. Against the Euro and British pound on the other hand, the dollar is a completely different animal.

Here is a chart of the correlation between the EUR/USD and Oil Prices for information purposes:

EUR/USD Chart

Take Two of Bailout Drama

Although there are many reasons to explain the dollar’s recent strength against the Euro, the latest wave of buying has been triggered by take two of the bailout drama. The Senate is slated to vote on a new $700 bailout plan that includes an increase in the FDIC insurance cap from $100,000 to $250,000 this evening and then its off to House for approval. Politically, it would be damaging to both the Democrats and Republicans if the second attempt does not pass. Adding to the Euro’s weakness and the dollar’s strength were hawkish comments from Fed President Plosser and the stronger ADP employment numbers. Plosser, who is usually more hawkish than his counterparts said that he is skeptical about a rate cut even though the market has completely priced in a 25bp rate cut for October.

Don’t Believe ADP

As for the ADP, unfortunately I do not think there is any truth to the numbers especially since the report only captures the first 2 weeks of September. This would not be the first time that the ADP has overestimated non-farm payrolls. There is no question that the US economy remains weak and the big drop in the manufacturing ISM index confirms that. The index fell to the lowest level since October 2001 but what I find more interesting is the fact that the employment index dropped significantly as well.

NFP/ADP Chart

Premature for ECB to Cut Rates

Trouble also continues to brew in Europe. There is talk that EU leaders could be discussing a TARP like plan for the Eurozone. Whether this passes remains to be seen, but it does tell us that European leaders are worried that more banks could collapse.

The bottom line is that the situation in Europe is not much better which is why the EUR/USD has tumbled. With that in mind however, the ECB still believes that cutting interest rates is premature. At best, Trichet’s tone could be slightly more dovish at tomorrow’s ECB meeting.

About Kathy Lien 236 Articles

Kathy Lien is an Internationally Published Author and Chief Strategist of DailyFX.com, one of the world’s most popular online websites for currency research. Her trading books include the highly acclaimed, Day Trading the Currency Market: Technical and Fundamental Strategies to Profit form Market Swings (2005, Wiley); High Probability Trading Setups for the Currency Market E-Book (2006, Investopedia); and Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game (2007, Wiley). As Chief Currency Strategist at FXCM, Kathy is responsible for providing research and analysis for DailyFX, the research arm of FXCM. She also co-edits the BK Forex Advisor, an Investopedia.com Premium Service with Boris Schlossberg – one of the few investment advisory letters focusing strictly on the 2 Trillion/day FX market.

Kathy is also one of the authors of Investopedia’s Forex Education section and has written for Tradingmarkets.com, the Asia Times Online, Stocks & Commodities Magazine, MarketWatch, ActiveTrader Magazine, Currency Trader, Futures Magazine and SFO. She is frequently quoted by Bloomberg, Reuters, the Wall street Journal, and the International Herald Tribune and has appeared on CNN, CNBC, CBS and Bloomberg Radio. She has also hosted trader chats on EliteTrader, eSignal and FXStreet, sharing her expertise in both technical and fundamental analysis.

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