Bloomberg News

Euro Falls as ECB Inflation Pushes Rate Bets Down; Kiwi Surges

June 09, 2011

June 9 (Bloomberg) -- The euro weakened after the European Central Bank signaled a July interest rate increase while damping investor expectations for further moves by reiterating that inflation will fall below its 2 percent limit next year.

The shared currency fell for a second day against the dollar as traders closed out earlier bets on future ECB rate increases. New Zealand’s currency climbed to a record after the nation’s central bank said borrowing costs will need to rise in the next two years. The Dollar Index reached the highest in a week on speculation that dollar declines had gone too far.

“Euro strength will depend on potential for rate hikes going forward and there are some risks; if they are anticipating inflation to come down in the future then it might not be quite as hawkish,” said Eric Viloria, senior currency strategist for Gain Capital Group LLC in New York. “It was basically buy the rumor sell the fact. The market was largely expecting Trichet to signal a rate hike next month with his language.”

The euro depreciated 0.5 percent to $1.4510 at 5 p.m. in New York. It reached $1.4697 on June 7, the strongest level since May 5. The 17-nation currency was little changed at 116.61 yen.

Market Reading

Euribor futures rose, pushing the implied yield on the March 2012 contract down seven basis points to 1.97 percent, as traders reduced bets policy makers will boost rates.

The euro plunged more than 2 percent to as low as $1.4510 on May 5 when the ECB left its rate at 1.25 percent, wrong- footing some investors who had expected a faster move to combat higher prices. Since then it had gained 1.9 percent as investors anticipate a July increase.

“There was a fair amount of positioning going in to the meeting and then when Trichet delivered the magic words strong vigilance the euro popped and people who had been long said thank you and took profit,” said Carl Forcheski, a director on the corporate currency sales desk at Societe Generale SA in New York. “Once we broke $1.4570 stop losses were tripped, which pushed it down another half cent.” A long position is a bet an asset will appreciate.

European Inflation

The ECB said inflation next year will accelerate between 1.1 percent and 2.3 percent, compared with an earlier forecast of 1 percent to 2.4 percent. Policy makers see growth in 2012 of 0.6 percent to 2.8 percent, from a previous range of 0.8 percent to 2.8 percent.

The euro also fell as Trichet said the central bank is not in favor of restructuring or losses with regard to Greek bondholders and wants to avoid any credit event or default. Greek two-year note yields surged 178 basis points to 25.71 percent, with 10-year yields jumping 49 basis points to 16.64 percent, the highest since May 26.

The Dollar Index, which tracks the greenback against the currencies of six U.S. trading partners, advanced 0.3 percent to 74.183 as the U.S. trade deficit unexpectedly shrank 6.7 percent to $43.7 billion in April, Commerce Department figures showed today.

The dollar has declined 4.8 percent against nine other currencies of developed economies in the past three months, according to Bloomberg Correlation-Weighted Indexes.

‘Bearish Dollars’

“The market has been very bearish dollars in recent weeks and very bullish yen, commodity-linked currencies and higher- yielding currencies,” said Fabian Eliasson, head of U.S. currency sales at Mizuho Financial Group Inc. in New York. “It has been an ongoing trend that will not be switched anytime soon, but the dollar may gain today out of exhaustion.”

The seven-day relative strength index for the Dollar Index rose to 43.86, the highest level in two weeks, rebounding from four days under the 30 level that indicates an asset may be due for a correction.

New Zealand’s dollar gained against all 16 of its most- traded counterparts tracked by Bloomberg after Reserve Bank of New Zealand Governor Alan Bollard signaled the central bank will lift interest rates.

The New Zealand currency rose as much as 1.9 percent to a record 83.02 U.S. cents, and advanced 2.2 percent to 66.53 yen.

The central bank’s decision today to keep the benchmark rate unchanged at 2.5 percent was predicted by all 15 economists surveyed by Bloomberg News.

Investors now expect the central bank to increase the benchmark rate by 63 basis points over the next 12 months, up from 56 basis points yesterday, according to a Credit Suisse Index.

The Bank of England kept its benchmark rate unchanged at 0.5 percent at today’s meeting, an outcome predicted by all 55 economists surveyed by Bloomberg News.

The pound traded at $1.6366, from $1.6404 yesterday. Sterling was at 88.65 pence per euro, from 88.90 yesterday, when it reached 89.76, the weakest since May 5.

The U.K. central bank will lift the rate by 29 basis points over the next year, according to a Credit Suisse Group AG index based on swaps trading. The ECB will raise its main rate by 73 basis points in the same period, according to a separate Credit Suisse index.

--With assistance from James G. Neuger in Brussels, Simone Meier in Zurich, and Lucy Meakin in London. Editors: Paul Cox, Dave Liedtka

To contact the reporter on this story: Allison Bennett in New York at abennett23@bloomberg.net; Keith Jenkins in London at kjenkins3@bloomberg.net

To contact the editor responsible for this story: Dave Liedtka at dliedtka@bloomberg.net


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