Dollar selling likely to continue after IMF meeting

NEW YORK: Investors will keep on selling the US dollar and chasing higher returns in emerging markets after finance leaders this weekend produced no quick fix for uneven global growth and tensions in currency markets.

Markets will also be on alert for more intervention by the Bank of Japan, which sold yen on the open market last month for the first time since 2004 in order to weaken the currency against the dollar and support Japan's export-driven economy.

Super-loose US monetary policy, and the prospect of more easing, has helped pushed the dollar to an 8-1/2-month low and diverted funds into higher-yielding emerging markets.

To stop their economies from overheating and defend their exporters, some emerging governments have moved to stem the rise of their own currencies, sparking talk of a brewing "currency war." China, in particular, has refused
US and European entreaties to let the yuan appreciate more rapidly.

With only a vague plan to monitor large countries' economic policies more closely, the weekend International Monetary Fund meeting ended without concrete action on exchange rates.

Analysts said the way is now clear for the US Federal Reserve to resort to even more stimulus next month. It is expected to pump more money into the economy through the purchase of US government bonds and possibly mortgage-backed debt -- which would weaken the dollar even further.

"Overall, despite occasional reference to a strong dollar policy - which increasingly sounds anachronistic -- there is little to suggest that the dollar's direction is anything but down," said Steven Englander, Citigroup's director of global foreign exchange strategy.

That was likely not lost on European policymakers, who fear a stronger euro will hurt growth in the 16-nation euro zone. As European Central Bank President Jean-Claude Trichet said over the weekend: "The US authorities, to my knowledge, are in favor of a strong dollar, and you know I appreciate always this reference."

Market analysts at IFR (a unit of Thomson Reuters) said traders' initial reaction will likely be to buy the euro and commodity-linked currencies such as the Australian dollar when trading resumes on Monday.

Both the euro and Aussie have soared against the greenback of late, with the euro hitting an 8-1/2-month high above $1.40 and the Australian dollar a two-year peak less than 2 cents away from parity.

With positions against the dollar already stretched, Brown Brothers Harriman strategist Marc Chandler said a respite was possible in the days ahead. Monday's trading was likely to be light due to holidays in Japan and the United States.

But technical strategists said support will likely keep the euro above $1.35 in the medium term, particularly with the European Central Bank expected to embrace tighter monetary policy more quickly than the Fed.

DISCORD GROWS

The discord among global policymakers over the currency issue has been striking.

Brazil has doubled a tax on foreign purchases of local bonds. South Korea has warned of new trading limits, and India has said it may intervene in currency markets.

China has reaffirmed plans to allow eventual currency appreciation, but at its own pace.

"That there seems to be lack of agreement as to what needs to be done at the global level with the major economies is of concern to us," said Thailand's finance minister, Korn Chatikavanij, at the IMF meeting. "There seems to be a race to the bottom...and that's very problematic."

Alan Ruskin, the head of Deutsche Bank's global G10 currency strategy, said the trend in currencies is the logical consequence of divergent economic trends, and in the long run is necessary to smooth out imbalances in the global economy.

"This is about much more than the Fed getting ready to launch more quantitative easing," he said. "We've had low interest rates in the most developed economies for some time and we have robust growth and the need to tighten policy elsewhere. That suggests the flows going into the emerging world are going to continue."

JAPAN'S FREE PASS

Trading the yen could be tricker. While traders may try to test the Bank of Japan's resolve by pushing the dollar toward a record low, analysts said risks remain.

Some said US silence over the weekend about the yen may be seen as tacit approval for Japan to intervene again. The dollar fell to a 15-year low beneath 82 yen on Friday, below its trading level when Japan intervened on Sept 15.

"Geithner was pretty easy on the Japanese so there might be people getting afraid that the Bank of Japan will intervene again," Chandler said, referring to US Treasury Secretary Timothy Geithner. He added that some traders may opt to scale back short dollar/yen and euro/yen trades.

Ruskin said Japan probably earned a free pass for now because it was trying to slow rapid yen appreciation rather than targeting a level as some emerging market countries do.

"I think the US wants to avoid Japan becoming a distraction from efforts to get more Chinese FX flexibility."