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Friday, August 08, 2008 1:56 AM

Trichet Puts Spotlight on the Euro, Dollar

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Bloomberg is reporting Euro Slumps to Five-Month Low on Reduced Bets for Higher Rates.

The euro slumped to a five-month low against the dollar as traders pared bets that the European Central Bank will raise interest rates due to a slowing economy.

The euro also fell to a three-week low versus Japan's currency after ECB President Jean-Claude Trichet said economic growth will be "particularly weak" through the third quarter. The dollar headed for its biggest weekly gain against the yen in almost two months as oil dropped 18 percent from a record. The Australian dollar declined for a ninth day, the longest stretch since 1980, as futures show the central bank will cut borrowing costs this year.

"Trichet triggered the euro's decline when he went out of his way to highlight weakness in the economy," said Saburo Matsumoto, senior manager of foreign-exchange sales at Sumitomo Trust & Banking Co. in Tokyo. "A rate increase is off the cards for the time being, and the euro is likely to adjust lower."

Trichet said yesterday he has "no bias" or "pre-commitment" toward future rate movements after the central bank left the main refinancing rate at 4.25 percent. He told reporters at a press conference in Frankfurt that while inflation remains a threat, risks to economic growth are "materializing."
Risks To Growth Are Obvious

Risks to growth have been materializing for so long now that they should have long ago been obvious to everyone. In the US, "Talk Of Rate Hikes Is Comical".

With Trichet signaling he is done hiking, a signal that was not expected, there is now room for the US dollar to rally. With that in mind, let's take a look at a few charts.

$USD - US$ Index Daily

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On the daily chart the US$ crossed resistance and sitting right on the 200 day exponential moving average. It has not closed above the 200 EMA since March of 2006.

$USD - US$ Index Monthly

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What looks like a rally on the daily chart looks like a blip on the monthly chart. A break of the monthly downtrend line could lead to tests of resistance at 80, 85, and 90. The latter would be very stiff resistance, if it can even get there.

$XEU - US$ vs. Euro Weekly

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On the weekly chart there is a clear double top. This is now a third test of other 152-153 area. I did not think the last test would hold but it did, moving on to a double top. With the Fed on hold and Trichet's likely next move a cut, there is plenty of room for the dollar to rally vs. the Euro.

$XEU - US$ vs. Euro Monthly

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On the monthly chart the Euro is not even close to the trendline. It could sink all the way to 148 or so and still have the uptrend intact.

$XBP - US$ vs. British Pound Weekly

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The British Pound broke the weekly uptrend line and has been floundering in a sideways channel for about 8 months. However, the bounces appear to be weakening and it's do or die for the pound right now. I doubt support holds this time.

$XBP - US$ vs. British Pound Monthly

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The upward monthly trend of the pound vs. the dollar since 2002 is at stake. And if the preceding weekly chart breaks support soon, the monthly chart will follow right along.

Those looking for the US$ to crash should take a good look at the US$ monthly chart above. The dollar already has crashed. More could be in store of course, but much of the recent strength in the Euro can be attributed to Bernanke's willingness to cut and Trichet's willingness to hike.

Trichet's statements put the Euro firmly in the spotlight right now. More importantly, the color of that spotlight has changed since the last time he spoke.

In addition, the UK is in every bit as much of a mess as the US. The only thing holding the pound together is the interest rate differential vs. the US. It a very important factor, but it very well could be completely factored in.

Finally, with anti-US$ sentiment running at extreme levels, a dollar bounce can go a lot further than anyone expects, especially if Bernanke holds pat and the Bank of England and ECB start cutting rates.

Mike "Mish" Shedlock
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