Also gains in stock market and increase in gold and oil prices also undermined the position of dollar. With investors looking for an alternative investment to a declining dollar, gold prices increased to a record high of $1,174 an ounce. Gold is considered to be a hedge against the dollar because of its property of being a stable source of value.

The dollar index which measures dollar against six major currencies declined by 0.7% to 75.131 after hitting a two-week high of 75.879 on Friday. The euro increased by 0.7% at $1.4961 after reaching a high of $1.5001. The British pound also increased to $1.6621 from $1.6481. Against the Japanese Yen the euro increased by 0.8% to ¥133.16. The dollar also gained against yen by 0.1% to ¥88.98 after reaching a six-week low of ¥88.58.  With gold and oil prices hitting a high, commodity linked currencies gained. The Australian dollar increased by 0.9% to US$0.9238 while the New Zealand dollar increased by 1.2% to US$0.7324.Against other important currencies the dollar declined to 1.0093 Swiss francs from 1.0182 francs, and against Canadian dollar declined to 1.0553 Canadian dollars from 1.0714.

Euro was helped by ECB president Trichet’s comment that it plans to discuss exit from quantitative easing strategy. Trichet added that with situation becoming normal the bank is thinking of a gradual phasing out of stimulus measures. This remark reinforced the view that the ECB is likely to exit from its easy monetary policy before Fed. Also Euro gained after a survey result showed that the service sector in the Euro zone grew at its fastest rate in November indicating that the economic recovery will continue in the fourth quarter.

On the economy front there was positive economic news with industry report showing that U.S. existing home sales has increased to more than two and a half year high in October. As per data from the National Association of Realtors sales of existing homes increased by 10.1 percent from September to October. A recovery in the housing market is taken as an indicator of an economic rebound which helped the stock market and pushed the dollar lower. Since early 2008 stock markets and dollar are moving inversely with positive economic report helping the stock market and lowering the dollar.

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The dollar has been helped in the entire week by weak economic data. Last week government released data showing that the jobless claims continues to be high and foreclosures are increasing. Weak economic data helped dollar as investors reduced their holdings of risky assets like stocks and bought dollar and short term US treasury bonds.

The dollar was also helped by banks parking funds in safe assets like the US government bonds. This resulted in the rates

on short-dated U.S. government paper declining on Thursday. In fact the treasury yields almost reached its low as investors preferred non risky assets given the current situation of turmoil. Analysts feel that this was mainly on account of funds booking profits and parking their cash in U.S. government bonds before the month end.

Among other news there was little impact of European Central Bank Governor Jean-Claude Trichet comment that it is too early to announce that the financial crisis is over. The bank of Japan continued with its low interest rates policy keeping the interest rate at a record low of 0.1%. This was more or less expected and hence the markets did not react in a big way to this development . The bank of Japan governor further made it clear that the bank plans to continue with its low interest rate policy to help the economy.

Analysts feel that the current rise in dollar cannot be taken as an indication that dollar is strengthening. Since March dollar has lost approximately 14% as investors worry about the pace of global economic recovery and prefer higher yielding currencies and assets. US dollar has also been pulled down by low US interest rates. The big trade deficit and super low interest rate which Fed has made clear will continue for some time is expected to again put downward pressure on dollar. Theoretically low interest makes currency less attractive cause investors prefer to transfer funds to higher earning assets.

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On Monday Bernanke commented that the Fed is very much looking into the implications of changes in the value of dollar as US interest rates reach rock bottom levels. This was interpreted by traders as an indication that the Fed is worried about the current depreciation which can increase inflation in the economy. European Central Bank President Jean-Claude also came in support of the dollar. He clearly mentioned that a strong dollar is in the U.S. interest and that there are no plans for euro to act as a reserve currency in the near future.

The impact of this interpretation was clearly seen as the dollar index increased by 0.3% to 75.17 after hitting a 15-month low of 74.679 on Monday. The euro declined by 0.4% to $1.4910 down mainly on account of profit booking and options-

related selling around $1.50. Early in the day the euro had briefly increased above $1.50 but was unable to hold that level. Against the yen the dollar was unchanged at ¥89.05 after reaching a low of ¥88.74 earlier in the day. Against the Canadian dollar, US Dollar increased to 1.0524 Canadian dollars from 1.0467 late Monday, and against Swiss francs gained to 1.0175 Swiss francs from 1.0068 francs.

Investors and analysts feel that dollar’s decline so far is understandable but the commitment to continue to keep interest rates at such low levels can only increase the potential of dollar being used for carry trade. President Obama’s visit to China is also being closely monitored though nothing great in terms of exchange rate regime is expected of it. Analyst feel that for dollar’s downward trend to reverse either Fed has to increase rates which has been literally ruled out or China has to take steps towards a more flexible exchange rate regime. China is so important because U.S. manufacturers feel that the Yuan which is pegged to the dollar is undervalued. Hence Chinese exporters get price advantage against U.S. companies. In the recent meeting with President Obama Chinese president Hu Jintao made no commitment regarding  yuan. Hence with both these requirements unlikely to be fulfilled atleast in the near future, the dollar in all likelihood with continue on its downward trend.

Meanwhile in other development the treasury department released data stating that the foreigners’ demand for long-term U.S. financial assets increased in September with China which is also the biggest foreign holder of U.S. Treasury bond increasing its stock of government debt. Continued investment in Treasury bonds is critical for US to finance its record high budget deficit. Hence in conclusion the two main factors responsible for dollar’s decline namely the high budget deficit and low interest rate are very much at work.

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Also lack of agreement between Asian and US leaders on currencies was taken as a signal by traders to sell the dollar. The United States and China leaders had met at the Asia Pacific Economic Cooperation (APEC) forum in Singapore to discuss currencies. However they failed to come to an agreement which was taken by traders as an indication that the dollar’s downward trend will continue and that the US interest rates will continue to be low while interest rates in other countries may eventually increase. In search of better return investors normally transfer funds to an economy with higher interest rates. Other economies though with still low interest rates have maintained higher rates than the US. The European central bank and the bank of England have respectively maintained their rates at 1 percent and 0.5 percent which is higher than the Fed’s current near zero rate.

The dollar was down to 74.990 against a basket of currencies which is approximately a fall of 0.5%. The euro helped by the surge in the European stock markets increased by 0.4% against dollar to $1.4975. The British pound increased to $1.6836 from $1.6672. Against the Japanese yen dollar fell to 88.98 Japanese yen from 89.63 yen. Amongst other currencies dollar declined to 1.0068 Swiss francs from 1.0135 and declined 1.0467 Canadian dollars from 1.0517.

The movements in dollar is currently being watched carefully by all economies. With dollar having the status of reserve currency, decline in the value of dollar has far reaching implication for the world economy. Policy makers in Europe worry that strengthening of Euro against the dollar is harming the economic recovery prospects in the region.

China on the other hand with its huge pile of US dollar in its reserves is worrying the most about the decline in dollar’s value. China which currently holds roughly 70 percent of its massive $1.9 trillion forex reserves in dollars is rightly concerned that the dollar’s drop has eroded the value of its holding. Also analyst feel that low US interest rates and weak dollar posses a new risk to the global financial system as it fuels speculation in overseas asset market.

The future direction of US dollar will largely be determined by the data releases in the coming week. Traders and Economists are particularly looking forward to the retail sales number as it is considered to be an important gauge of consumer sentiment. Dollar is expected to further lose value with a favourable retail sales report for October which many economists are expecting. Better than expected economic reports tend to pull down dollar as it increases risk appetite of investors who pursue riskier high yielding assets in other countries.

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There were lot of factors responsible for dollar’s dilly dally run on Wednesday. First of all Chinese government in a report  announced that its factory output has surged to a 19 month high in October thereby indicating that the world’s third biggest economy is very much ahead in the path of economic recovery. This optimistic view on economy fanned the bullish forces increasing the market appetite for higher yielding assets such as stocks and commodities and reducing demand for dollar.

Secondly the Fed again asserted the fact that it expects US economy to recover only at a slow pace .The fed also made it clear that it plans to continue with its easy monetary policy with interest rates at near zero level. Given this scenario traders had little reason to pile up dollars. Obviously why would any sensible trader accumulate dollar when he knows that the monetary policy is going to be so easy. For investors currency of a country with higher interest rate is more attractive since speculation in that currency can earn higher returns.

Thirdly dollar continued to be used as a funding currency for carry trade. With interest rates at near zero level, investors are using dollar to fund investments in more risky markets. This phenomenon pulls down the currency used for carry trade and in the current scenario is pulling the dollar down.

Later in the trading day dollar gained some ground. Probably Treasury secretary Tim Geithner comment in favour of strong dollar helped the currency.

Another important currency to experience significant fall during the day was the British pound. Bank of England governor Mervyn King comment that UK will have a difficult recovery and that central bank may buy more UK pounds pulled the pound down. Against the pound dollar increased by 1.2% to $1.6547.

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Tuesday’s gain in dollar was expected as investors felt that the Monday’s fall in the currency was too much and too fast without any fundamental reason. Analysts also are of the opinion that the investors don’t have any reason to sell dollar any further after its recent falls.

Dollar gained maximum against Sterling on Tuesday. Sterling lost ground on Tuesday after Fitch commented that among the European economies UK was at maximum risk of losing its AAA rating. The agency also declared that the country required the largest budget adjustment. After reaching three month high on Monday, the pound declined to the $1.66 level and was knocked down to 90.00 pence per euro. It was approximately 0.4% down against the dollar at $1.6684.

The euro also declined by 0.3% to $1.4948 from the $1.4999 level on late Monday. The euro market was keenly looking forward to the investment sentiment reports for November. The ZEW survey for the Euro Zone which was expected to increase this month to 58.0 instead declined by 5.1 points to 51.8 providing a big blow to investor confidence. This drop also suggests that the rising unemployment and the foreseeable end to stimulus is denting investor confidence.

The dollar also gained against the Australian dollar which has proved to be a strong currency. Thanks to the strong Australian business confidence data, the currency had increased to above the $0.93 level falling a little short of its 15 month high. Against the yen dollar registered a marginal decline of 0.1% to 89.77 Japanese yen from 89.99 yen. Among other currencies the US dollar gained against Swiss francs but fell against Canadian dollar.

With dollar rebounding, stock markets saw a mixed day. The Dow increased by 20 points, while other indices like the S&P and Nasdaq Composite fell marginally by 1 and 3 point respectively.( For detailed analysis of how the stock market behaved please refer to our stock market daily brief)

With the expectation that the US interest rate will stay near zero, investors are currently using dollar to fund carry trades in higher yielding assets. That is traders are borrowing cheap dollar to funds riskier assets such as emerging markets currencies, oil or equities. In its recent note IMF has commented that given the current economic scenario the dollar will continue to be the funding currency for carry trade and this will contribute to pulling dollar further down. Analyst say that this phenomenon will continue until fed raises interest rate from their current near zero level.

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