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Wednesday, July 13, 2011

DOLLAR TUMBLES

Dollar drops on Bernanke remarks; euro advances

NEW YORK | Wed Jul 13, 2011 4:07pm EDT
A picture illustration taken in Warsaw on January 18, 2011, shows a one euro coin.
Credit: Reuters/Kacper Pempel

(Reuters) - The dollar tumbled on Wednesday, posting its worst performance against a basket of currencies in almost a month, after Federal Reserve chief Ben Bernanke said the Fed could inject more stimulus to the U.S. economy if it weakens further.

The dollar also fell to a record low against the Swiss franc, in the wake of Bernanke's testimony. The greenback hit a trough of 0.81820 franc, while the euro traded near $1.42, off the prior session's four-month low beneath $1.39 and on pace for its best day since April.

Surprisingly strong Chinese growth data also helped overshadow worries about the euro zone debt crisis after Fitch Ratings said an ambitious Italian deficit reduction plan would help stabilize the country's credit rating.

The euro held gains even after Fitch on Wednesday downgraded Greecedeeper into junk territory, citing the absence of a new and fully funded financing program.

Bernanke "is making it plain that QE3 is still in the Fed's mind and is on the table," said Douglas Borthwick, managing director at Faros Trading in Stamford, Connecticut.

"With a Fed on hold and contemplating more quantitative easing we see euro/dollar rallying and the dollar index dropping through the end of the year," he added.

Bernanke, in testimony before a House of Representatives committee, said: "The possibility remains that the recent economic weakness may prove more persistent than expected and that deflationary risks might re-emerge, implying a need for additional policy support.

The Fed ended its most recent asset-purchase program in June. Traders said another round of easing would flood the financial system with more money and encourage investors to reach for higher-yielding currencies and assets.

While most analysts believed the bar for another round of quantitative easing would be quite high, David Gilmore, a partner at FX Analytics in Essex, Connecticut, said a "Lehman-like event that drives the economy off a cliff" could accelerate the introduction of further monetary accommodation.

If the European debt crisis were to get out of hand, that could be one such event, Gilmore said.

In late afternoon trading, the ICE dollar index fell 0.8 percent to 75.208 .DXY, its worst showing since mid-June.

The euro rose and was last at $1.41460, up 1.2 percent, after touching $1.41930 on trading platform EBS. It rose 1.5 percent against the yen.

The high-yielding, commodity-sensitive Australian and New Zealand dollars rose sharply, advancing 1.3 percent and 2.2 percent, respectively, versus the greenback.

Fitch's earlier remarks on Italy eased worries about the country, whose borrowing costs soared this week on fear that a default in Greece would hurt European banks and strain other countries' finances.

Italy is considered especially vulnerable, as it has the euro zone's second largest debt-to-output ratio.

Still, some analysts said the euro's strength could be quickly cut short. European leaders, set to convene an emergency meeting on Friday, have yet to agree on a second Greek bailout.

In the options market, one-month risk reversals remained in favor of euro puts -- options to sell the currency, with plenty of event risks ahead, including the results of stress tests on euro zone banks due on Friday.

The 25-delta risk reversal on one-month euro/dollar was at -3.3 vols on Wednesday after falling to -3.8 on Tuesday.

Reflecting that unease, the yen soared against the euro and hit its highest level against the dollar since Japan's March earthquake as investors unwound risky trades funded with yen.

The dollar was last at 78.970 yen, up 0.3 percent, not far from a four-month low at 78.481 on EBS earlier in the global session.

Traders said markets were also on edge about a pending deadline to lift the U.S. debt ceiling.

"We still have not seen the political will in either Europe or the United States to resolve the key issues," BMO's Askari said, which makes positioning tough for currency investors.

(Additional reporting Steven C. Johnson; Editing by Leslie Adler)

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