A Pfennig For Your Thoughts

Note: Chris Gaffney is temporarily filling in for Chuck Butler

In this issue…

  • Inflation?!? What Inflation?
  • Loonies slip
  • New Zealand worries
  • Singapore singing

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And Now… Today’s Pfennig!

Inflation?!? What Inflation?

Good day… The dollar moved up slightly overnight with Europe expecting the US data release to show inflation raising its ugly head here in the states. This morning we will get the Producer Price Index data for the month of November. According to economists surveyed by Bloomberg, this number will show that PPI Ex Food and Energy rose .2% for the month and 1.9% for the year. The more volatile PPI number including Food and Energy is expected to show a 4.5% annual rise. Traders who sold the dollar after the Fed removed the ‘accommodation’ from its statement last week, are reversing these trades and buying back dollars going into this morning’s data.

Another piece of data worrying the dollar bears is the housing data which is also due out this morning. Housing starts for the month of November are expected to have increased to 2020k from 2014k last month. Building permits are expected to be down slightly at 2090k vs. 2103k last month. If these predictions are correct, they will support calls for the FOMC to continue to raise interest rates. As long as the housing market continues to grow, there will be pressure on the Fed to continue raising rates in order to cool this hot market off. Both Big Al and Bernanke have voiced concern over the possible ‘bubble’ in the housing markets, so don’t expect them to stop raising rates until we see some slow-down. These higher rates will continue to support the US$ due to the positive interest rate differentials.

The Canadian dollar or ‘loonie’ was little changed, holding at its lowest of the month against the US$ after a government report showed a slowdown in inflation. Signs of slower inflation will limit how much more the Bank of Canada will raise interest rates. The consumer price index excluding food and energy rose 1.6% in November, just below its target of 2%. In spite of this good inflation data, many economists still predict the BOC will boost the benchmark rate twice more to 3.75% by the end of the 1st quarter of 2006. This would match the predicted increases by the US FOMC, and keep the loonie strong vs. the US$. We believe the CAD$ will end the year just under .87 and trade up to .885 by March 2006 on the back of strong demand for natural gas and continued foreign investment into the great white north.

Many of the large currency traders are starting to reflect Chuck’s feelings on the New Zealand dollar. Both Lehman Brothers and Goldman Sachs have suggested that their clients begin taking profits off the table in the kiwi. Even the local banks, including ANZ National Bank Ltd, Westpac Banking Corp, and Bank of New Zealand predict the currency will drop in 2006. Exports, which account for 30 percent of gross domestic product, fell for five of the past six months. Central bank governor Alan Bollard told a parliamentary committee in Wellington on Dec. 8 the New Zealand dollar is ‘unjustifiably’ strong and contributed to waning business confidence. But even after complaining about the currency’s strength, Bollard was forced to raise rates because the Reserve Bank of New Zealand’s forecasts show inflation will exceed the government’s ceiling of 3 percent for two years. As Chuck pointed out last week, Bollard is in an extremely difficult position, and may end up cutting rates to try and stimulate growth in spite of inflation. This would be a blow to the currency which has benefited from the steady influx of foreign capital attracted by the higher yields. Again, we are not suggesting investors call and ‘break’ cds prior to their expiration, but we do suggest moving them out of the kiwi when they come due. Just take some of your profits off the table and move the investments to currencies which have less risk in the coming months.

The Singapore dollar rose to a four-month high on speculation the island’s economic growth will exceed the government’s official forecast for this year. Singapore’s currency has risen 2.2 percent in the past month, second only to the Japanese Yen in the Asia Pacific region. The economy grew at an expected 5 percent rate in 2005 and is expected to grow 3-5% again in 2006. The Thai Baht has also risen over the past month with upward moving interest rates giving the Baht support. As growth in this region continues to move forward, we look for these Asian currencies to finally maintain a long term positive move vs. the US$.

China’s central bank announced today that their new exchange rate system is operating in a stable manner and flexibility of the Renminbi is gradually improving. The market’s role in setting the Chinese exchange rate will continue to increase, the Beijing-based People’s Bank of China said in a statement on its Web site. Since China revalued their currency by 2.1% on July 21, the Renminbi has risen just .4% against the US dollar. This small appreciation prompted criticism from the Group of Seven meeting of finance ministers on Dec. 2 who stated “Further flexible implementation of China’s currency system would improve the functioning and stability of the global economy and the international monetary system.” But China has rejected this criticism, and says that the country will keep the yuan’s value “stable, at a reasonable and balanced level.” Look for further strengthening of the Renminbi over 2006, but no dramatic 5+% moves.

Currencies today: A$ .7390, kiwi .6878, C$ .8546, euro 1.1965, sterling 1.7666, Swiss .7711, ISK 63.20, rand 6.3439, krone 6.7135, forint 210.18, zloty 3.21, koruna 24.185, yen 116.52, baht 40.90, sing 1.6641, China 8.074, pesos 10.725, dollar index 90.02, and Gold… $506.00

That’s it for today… I missed saying happy birthday to two of our compatriots on the currency desk yesterday. Both Jennifer McLean and Ty Keough celebrated birthdays, so we had twice the celebratory food and sweets. Happy Birthday Ty and Jen!!

Chris Gaffney, CFA
Vice President
EverBank World Markets

And Now… Today’s Pfennig!