Dollar May Get Only Temporary Lift From Fed Move

Steps by the Federal Reserve and other central banks to pump liquidity into stressed credit
markets will temporarily help the ailing dollar, but not provide a long-term cure as risks of a U.S. recession mount.

Analysts said the latest coordinated actions had reduced the chance of a steeper interest rate cut at the Fed's March 18 policy meeting, removing one potential drag on the dollar.

Dollar Bill
Dollar Bill

However, investors were likely to continue to shun the dollar due to a string of weak economic data and fears of a recession, raising risks of the greenback losing its status as the global currency of trade.

"I don't think this is an elixir for turning the dollar around. Markets have plenty of reason to keep selling dollars, based on the U.S. economy heading into recession -- if it's not already in recession," said David Gilmore, partner at FX Analytics in Essex, Connecticut.

The Fed and other central banks announced a series of aggressive measures to boost liquidity in financial markets, giving the dollar a major lift against the yen and pulling it back from fresh all-time lows versus the euro.

Analysts attributed the dollar's recovery on Tuesday to investors reducing bets against the greenback. They added that there was little to hold back the euro from testing $1.55 and
yen resuming its upward trend.

Recent data have painted a gloomy picture of the world's largest economy, with employment figures on Friday showing a contraction in non-farm payrolls for the second straight month
in February.

"There are rallies during a bear market and this is what we are seeing. What ails the dollar, growth differentials and interest rate differentials, still remains in place," said Paresh Upadhyaya, portfolio manager at Putnam Investment Management in Boston.

"The fundamentals for the dollar are still quite poor. Until we start to see dovish comments from the ECB ... it's very difficult to see this upward trend in euro stop."

The euro traded as high as $1.5495 versus the dollar on Tuesday and analysts said it was just a matter of time before the common currency broke above $1.55.

Analysts noted that moves to boost credit market liquidity would reduce risks associated with a banking liquidity crisis and hurt safe-haven currencies such as the yen and Swiss franc
in the short term.

"Overall, the yen will continue strengthening against the dollar and all the crosses because of concerns about risk aversion," said Upadhyaya, adding that Japanese retailers were keeping money at home and not sending it overseas.

"We have seen an increase in volatility in currencies and the carry trade is just not attractive when you have volatility at elevated levels. It's negative to hold on to a carry trade and heightened volatility makes it difficult for people to start selling yen," Upadhyaya.

Carry trades are strategies in which risk-taking investors are enticed to borrow cheaply in yen then invest the borrowed money in other countries where returns can be higher.

Analysts reckon that if the dollar falls through 101.25 yen, it could slide quickly to the psychologically key level of 100 yen. However, option barriers at 101 yen could slow the
decline, they say.

The dollar traded around 103.22 yen on Tuesday, rebounding from an earlier session low of 101.43 yen.

The Fed's expansion of its securities lending program by offering up to $200 billions of Treasury Bills to primary dealers as part of liquidity measures was a signal by the Fed that it wasn't ready to cut interest rates by more than 50 basis points this month, analysts said.

"It changes the expectations on interest rates which is dollar positive, but we have to look beyond the immediate responses. It does not change the narrative enough to confidently say the dollar is putting a bottom," said FX Analytics' Gilmore.