Euro Heads for Weekly Drop as Slowdown Spreads Across Europe

By Stanley White

Sept. 5 (Bloomberg) -- The euro slid against the dollar, heading for its biggest weekly decline in a month, on signs a global economic slowdown is spreading through Europe.

The currency headed for its biggest weekly decline versus the yen in more than a year after European Central Bank President Jean-Claude Trichet said the economy is ``weak'' and Luxembourg Finance Minister Jean-Claude Juncker said the euro is ``overvalued.'' The yen jumped to two-year highs against the Australian and New Zealand dollars as declines in stocks and commodities prompted investors to reduce holdings of higher- yielding assets funded in the Japanese currency.

``The euro may fall further as Trichet's comments cause people to lower expectations for an interest-rate increase,'' said Toru Umemoto, chief currency analyst in Tokyo at Barclays Capital Inc., a unit of Britain's third-biggest lender. ``The yen is also a beneficiary as falling commodities point to a global recession, and that's decreasing risk appetite.''

The euro fell to $1.4268 at 9:59 a.m. in Tokyo, from $1.4325 yesterday. It earlier touched $1.4214, the weakest since Oct. 24. The euro slid to 150.60 yen, the lowest since Aug. 17, 2007, before trading at 152.30 yen from 153.40 yen. It fell 4.6 percent this week. The yen reached 105.69 per dollar, the highest since July 17, and traded at 106.72 from 107.08. The euro may decline to $1.40 in six months, Umemoto said.

Carry Trades

The Australian dollar dropped 3.7 percent to 87.10 yen from late Asian trading yesterday. It touched 85.88 yen, the lowest since July 2006. New Zealand's dollar slumped 4.2 percent to 71.05 yen, reaching 69.96, the lowest since July 2006. The UBS Bloomberg Constant Maturity Commodity Index reached a seven- month low and the Standard & Poor's 500 Index tumbled the most in three months.

In carry trades, investors get funds in a country with low borrowing costs and buy assets where returns are higher. Japan's 0.5 percent benchmark interest rate compares with 4.25 percent in Europe, 7 percent in Australia and 8 percent in New Zealand. The risk to these trades is that currency moves may erase profits.

South Korea's won fell, headed for its biggest weekly loss since August 1998, on speculation global investors are shunning the nation's assets as the economy slows. The currency fell 0.9 percent to 1,139.20 per dollar as of 9:45 a.m. in Seoul, extending this week's decline to 4.4 percent.

The yen held gains after a government report showed capital spending by Japanese businesses unexpectedly fell in the three months ended June 30.

The euro dropped for a seventh day against the dollar, its longest decline since October 2006. The ECB yesterday kept its main refinancing rate at a seven-year high of 4.25 percent and Trichet told a press conference growth risks are on the ``downside.''

`Effectively Overvalued'

Europe's currency extended its decline after Luxembourg Juncker told reporters the currency is ``effectively overvalued.'' The euro has dropped more than 10 percent against the dollar from the record high of $1.6038 set on July 15.

``Juncker's comments pushed the euro lower,'' said Richard Franulovich, a senior currency strategist at Westpac Banking Corp. in New York. ``It's a bit of an overshoot. It reflected a market that really wants to buy dollars.''

The ICE future exchange's Dollar Index, which gauges the greenback against the currencies of six major U.S. trading partners, rose 0.2 percent to 78.795 after yesterday touching 79.077, the highest in almost a year.

Nonfarm Payrolls

U.S. nonfarm payrolls probably shrank by 75,000 last month, following a drop of 51,000 in July, according to the median forecast of 76 economists surveyed by Bloomberg News. The Labor Department's report is due at 8:30 a.m. in Washington.

``The dollar faces downside risks against the yen,'' said Tohru Sasaki, chief strategist in Tokyo at JPMorgan Chase & Co. and a former chief currency trader at the Bank of Japan. ``A worse-than-expected payrolls number would stoke fears about a global recession.''

The dollar may fall to 103.70 yen in the next few days, he said.

Sterling fell for a ninth day, reaching a two-year low of $1.7558 after the Bank of England yesterday kept its target lending rate at 5 percent. Policy makers judged the fastest inflation in more than a decade outweighed the risk that the British economy is sinking into a recession.

`Financial Tsunami'

The U.S. government needs to start using more of its money to support markets to stem a burgeoning ``financial tsunami,'' said Bill Gross, co-chief investment officer of Newport California-based Pacific Investment Management Co., manager of the world's biggest bond fund, on the firm's Web site yesterday.

The ECB lowered its 2008 economic growth forecast yesterday to about 1.4 percent from 1.8 percent and its 2009 prediction to 1.2 percent from 1.5 percent. The central bank raised its inflation forecast for this year to 3.5 percent from 3.4 percent and 2.6 percent from 2.4 percent for 2009.

Banks in the U.K., Spain and Ireland that have relied on the ECB for low-cost funding will have to pay more as it tightens lending rules to prevent abuses.

The ECB will increase the so-called `haircut' on most asset-based securities from Feb. 1 to 12 percent from as little as 2 percent, the central bank said yesterday. That means it will lend just 88 percent of the value of the paper.

``The liquidity situation continues to be severe and this could be one reason for the euro to weaken,'' said Masafumi Yamamoto, head of foreign exchange strategy for Japan at Royal Bank of Scotland in Tokyo and a former Bank of Japan currency trader. ``This also focuses attention on the divergence in banks and economies in the euro region.''

The euro may fall to $1.40 this month after breaking below a cloud on its weekly ichimoku chart used to show support levels, he said.

To contact the reporter on this story: Stanley White in Tokyo at swhite28@bloomberg.net