Foreign Currency Report 12 April 2007

GBP

Sterling has traded as one of few currency pairs that is managing to rally against the US dollar. Strong data reminded the markets that the Bank of England is likely to vote in favour of another interest rate hike later on in the year.

UK sales indicators increased by 0.8 percent in the month of February while the BRC sales monitor jumped by 6.2 percent in the month of March.

Traders have commented that having voted 8-1 in favour of leaving interest rates unchanged, it would have been too much of a jump for the MPC to raise borrowing costs in April.

Analysts were expecting April votes to have leaned closer to a rate hike in April, indicating tightening in May or June. Minutes from April's meeting will be released on April 18th.

Until then, whilst UK data continues show strength, the market will look for higher rates, snapping up British pounds in the process.

Sterling has also received a boost from an article in the Financial Times that has revealed the Treasury has discussed proposals to allow UK firms to repatriate some of their international profits tax free.

The sterling rally had been triggered by speculation that this may induce a repatriation of foreign profits by British based multinational corporations, back into the UK which would be a significant sterling positive.

USD

Minutes from the latest rate setting meeting have shown the US Federal Reserve has reported that inflation is the "predominant concern" for the economy as it sits at an 'uncomfortably high' level.
The Fed has said that "further policy firming" might be needed to cool inflation, but also noted concerns about growth.

Interest rates were held at 5.25% in March, and futures analysts are far from clear which direction the Fed will head next.

This causes volatility when buying Dollars as whilst there is speculation whether the Federal Reserve might raise rates again, the bank has repeatedly said it would keep its options open.

The minutes reiterated that the economy has recently weakened but should recover later in the year. However the minutes also warned that inflationary pressures remain, which may prompt further rate hikes this year.

Economists have had mixed reactions to the latest minutes, with some saying it remained hard to interpret the Fed's comments.
"This is the most inconsistent piece of communication we have seen under the new Fed chairman" said strategists. Reports indicate there was a battle within the Fed between those more worried about inflation and those more concerned about growth.

One of the main concerns of economists has been the slowing US housing market, and its impact on the wider economy.

The minutes said there were "signs of stabilisation" in this market, even as defaults on sub-prime lending - which denotes higher risk loans - had grown.

But while recent company earnings have been solid, business investment levels had been "surprisingly weak," the minutes said.
Overall the Fed members said they expected economic growth to improve later in the year and inflation to abate.

EUR

The Euro rose to a two-year peak against the dollar and an all-time high against the yen in Asian trading today on market expectation that following today's monthly meeting, the ECB will signal that interest rates need to rise further soon. Traders were caught off guard by the sudden rise.

The ECB meets today and traders expect rates to stay on hold at 3.75 percent, but investors will immediately look for ECB President Jean-Claude Trichet signal that rates will raise to 4.0 either in May of June.

The decision is due at 11.45am and this will be followed by a news conference at 12.30.

As always, the terms that Trichet uses are key to the short term direction of the Euro, particularly "strong vigilance," the typical signal that rates will be lifted at the next policy meeting.
The ECB's steady rate increases have given the Euro a boost and stand in contrast of expectations for the Federal Reserve to begin cutting rates later in the year.