Euro Versus Dollar

he euro traded near a record high against the dollar and the yen on prospects the European Central Bank will signal plans to raise benchmark interest rates at least once more this year.

The euro has gained 3.1 percent versus the dollar in 2007 as the spread between German and U.S. two-year notes declined to the narrowest in 2 1/2 years. ECB President Jean-Claude Trichet today may keep rates at a six-year high and suggest further increases. The British pound was near a 26-year high against the dollar on speculation the Bank of England will raise its main rate today.

``There's a heightened risk that Trichet will be hawkish, implying a September rate hike,'' said Seiichiro Muta, director of foreign exchange at UBS AG in Tokyo. ``The euro may appreciate.''

The euro was at $1.3614 at 11:50 a.m. in Tokyo from $1.3613 yesterday and an all-time high $1.3681 reached on April 27. It bought 167.05 yen from 167.04 yesterday and a record 167.18 July 3. The euro may rise to $1.3630 and 167.30 yen today, Muta said.

The pound traded at $2.0162 after touching $2.0207 yesterday, the most since June 1981. It has advanced 2.9 percent this year as the yield advantage of U.K. two-year notes over Treasuries rose to near the most in two years.

Economists surveyed by Bloomberg News forecast ECB policy makers will hold borrowing costs at 4 percent, while the BOE will boost them to 5.75 percent from 5.5 percent. The Federal Reserve kept its rate at 5.25 percent for an eighth meeting last week.

All-Time Highs

The yield advantage of two-year Treasuries over similar- maturity German notes is 0.42 percentage point, near the least since November 2004. Equivalent debt in the U.K. yields 0.86 percentage point more than U.S. notes, close to the 0.93 point on June 25, which was the widest spread since May 2005.

``The ECB may hike rates in September,'' said Tohru Sasaki, chief currency strategist at JPMorgan Chase & Co. in Tokyo. ``The euro may be bought and the yen may weaken'' to 168 this month.

The yen may fall on speculation fund managers will sell as they prepare to launch more than 1.5 trillion yen ($12.2 billion) of foreign-currency trusts, according to data compiled by Bloomberg. Japan's benchmark rate of 0.5 percent is the lowest in the industrialized world, reducing the appeal of domestic assets.

``Japanese investors are continuing to show appetite for overseas assets,'' said Hideaki Inoue, chief manager of derivatives and fixed-income investment at Mitsubishi UFJ Trust & Banking Corp. in Tokyo. ``The trend for a weaker yen is intact.''

Japan's currency has fallen 10.8 percent against Australia's dollar and 12.6 percent versus New Zealand's this year as investors bought securities in the two countries. The benchmark rate is 6.25 percent in Australia and 8 percent in New Zealand.

No Undue Concern

The yen was at 105.21 per Australian dollar from 105.02 yen yesterday. It touched 105.37 on June 22, the weakest since October 1991. The currency also traded at 95.93 to New Zealand's dollar from 95.74 yesterday, when it reached 96.01, the lowest since October 1987. The yen may decline to 123 per dollar and 167.50 a euro today, Inoue said.

Concerns over the so-called carry trade ``overestimate'' the impact of a possible increase in the value of the yen, said Chikahisa Sumi, director of debt management policy at Japan's Finance Ministry.

``Not all carry trades will reverse when the yen strengthens,'' Sumi said in Hong Kong at a bond conference organized by Euromoney Institutional Investor Plc.

Volatility implied by one-month yen options dropped to 6.75 percent today, the lowest in almost a week, from 7.025 percent yesterday. Lower volatility may encourage investors to buy assets overseas in so-called carry trades, as it implies smaller exchange-rate fluctuation risk.

The dollar may weaken before U.S. reports today and tomorrow forecast to show slower expansion in the services industry and fewer jobs created in June.

`Soft Patch'

The U.S. currency may drop for a second day against the euro on prospects an economic slowdown will prompt the Fed to cut rates this year. Interest-rate futures on July 3 showed 24 percent odds the Fed will lower borrowing costs in December, up from 21 percent June 28.

``There's a risk the data will be bad, possibly pointing to a soft patch in the economy,'' said Masashi Kurabe, currency manager at Bank of Tokyo-Mitsubishi UFJ Ltd. in Tokyo. ``It's a negative for the dollar,'' which may decline to $1.3650 per euro and 122.20 yen today.

The dollar may extend this week's 0.5 percent loss versus the euro as the Institute for Supply Management will say today its index of non-manufacturing businesses including banks, builders and retailers fell to 58.0 in June from 59.7 in May, according to a Bloomberg News survey. The Labor Department will say tomorrow payrolls increased last month by 123,000, after a gain of 157,000 in May, a separate survey shows.

source:bloomberg.com