Wall Street plays cat and mouse with dollar

PUBLISHED : Sunday, 27 November, 1994, 12:00am
UPDATED : Sunday, 27 November, 1994, 12:00am

MARKETS often behave like Tom the cat in the Tom And Jerry cartoon films. They run off the cliff, legs still going like normal, and only drop when they suddenly realise that there is nothing underneath them.

This explains the slump in the US stock market on Tuesday: it had sailed on for five days after the Federal Reserve's rate hike before realising it had nothing to support it.

Wall Street's fall is actually rather significant for the foreign exchange markets. The intriguing thing about the various markets is that they are actually interconnected and are always giving us signals, and the Dow Jones average appears to confirm that corporate earnings will be under pressure because the US economy is at last slowing down.

Parallel to this, we saw the bond market firm up, which is another sign that the economy is slowing, and that inflation is probably no longer viewed as such a risk. As this column has pointed out, a slowing economy should help the dollar, and a rising bond market should do the same.

Moreover, the reaction of Wall Street will be one of the factors which the Fed takes into account when setting interest rates, so maybe future rate rises will be tempered.

In fact, the dollar firmed a little on the holiday distorted week, and it does seem to be underpinned at its present levels.

With a reasonable gap between short rates in the US and those in most other countries, the dollar pressure should abate, so expect it to stay firm against the yen and the European currencies this week.

Certainly, the charts suggest it should move to 1.5750 deutschmarks and 99 yen pretty quickly, with 1.60 and 101.50 by the year end looking quite attainable.

Why stories of government corruption should affect the value of a currency is one of life's great mysteries, but dealers used it as an excuse to take the lira lower on the week.

Another great mystery was why sterling should be weak on John Major's dissolution threat - is it serious, and would it make any difference if it were? Expect sterling to go higher against its European counterparts this week.

The Australian dollar is pausing for breath after spurting to 0.7650 during the week, but should go higher from here.

The recent weakness of the Canadian dollar should reverse itself over the next week or two, particularly if (as expected) we get good economic numbers.

Bob Bunker is general manager of BNP International Financial Services (HK) Ltd.