Dollar Rebounds From Thrashing

In dramatic but thin price action, the dollar slumped in Tokyo-less Asian activity, falling to JPY107.55 as the euro rose to new highs, just shy of $1.4970.

No fresh fundamental developments seemed to have triggered the move, but there are continued fears that the distress in the credit markets will force the Fed to continue to ease monetary policy. However, just as inexplicably, the dollar rebounded in late Asian trade and has continued to recover through the European morning.

Technically, the euro appears to be posting a key reversal, setting new record highs and then selling off below yesterday's low. However, given the thinness of the markets, we'd place more importance on Wednesday's low of about $1.4776 as important today. The Swiss franc is also staging a potential key reversal, but like the euro, Wednesday's low near CHF1.1080 may be more significant than yesterday's CHF1.1040 low. Sterling has also reversed, and Wednesday's low was set just below $2.0530.

The dollar has recovered off its lows against the yen, but is struggling to re-enter yesterday's range, the low of which was recorded near JPY108.30. In general, while wanting to respect the price action, I am reluctant to read too much into it at this stage and am not convinced the underlying trends have reversed.

It is difficult to find much rhyme or reason in today's wild price action in the foreign exchange market. I am inclined to dismiss it as a fluke recorded without much participation. However, it may provide a good opportunity to sum up our outlook. The main weight, in my view, on the dollar is not structural concerns, which in the vernacular of the marketplace includes the current account deficit, the dollar's role as the numeraire for the world economy and its status as the predominant reserve asset. Instead, I see the weakness as largely cyclical in nature, having to do with the divergence in the monetary cycles among the major industrialized countries.