Dollar Posts Biggest Gain Versus Euro Ever on Funding Demand

By Daniel Kruger and Ye Xie

Oct. 4 (Bloomberg) -- The dollar posted its biggest advance ever against the euro on a surge in demand for U.S. currency funding amid a worldwide credit crunch.

Demand for the greenback surged this week as financial firms in Germany, the U.K., Belgium and Iceland faced funding pressure as banks hoarded capital, driving short-term lending rates in money markets to all-time highs. Strategists forecast more dollar gains after the U.S. Congress approved and President George W. Bush signed the $700 billion financial bailout.

``Negative sentiment tends to benefit the dollar as U.S. investors bring their money home and global investors try to buy liquid U.S. fixed-income assets,'' said Rebecca Patterson, global head of foreign exchange in New York at J.P. Morgan's Private Bank, a JPMorgan Chase & Co. unit that helps wealthy clients manage assets. ``I would buy dollars on dips.''

The dollar advanced 5.7 percent to $1.3772 per euro, from $1.4614 on Sept. 26, the biggest gain since the 15-nation currency debuted in 1999. It touched $1.3703 yesterday, the strongest in 13 months. The dollar fell 0.7 percent to 105.32 yen, from 106.01. The euro depreciated 6.4 percent to 145.11 yen from 154.94, its biggest all-time weekly slide.

Policy makers have joined counterparts around the world this week to step up efforts to restore normal lending.

The Bank of Canada said this week it will raise the amount of money it's putting in the banking system to deal with strained credit markets to at least C$20 billion ($18.5 billion), from C$8 billion. Brazil moved to free up to 23.5 billion reais ($11.7 billion) by easing requirements on reserves that banks must keep at the central bank.

U.S. Bailout

The U.S. Congress passed a financial-market bailout designed to unlock credit markets, after an initial rejection by the House of Representatives that caused global stocks to plunge. The bill authorizes the government to buy troubled assets from financial institutions reeling from record home foreclosures.

``The bill that just passed is a step in the right direction, though it's clear as the market anticipated this event over the last several days the strains have not completely gone away,'' said Todd Elmer, a currency strategist in New York at Citigroup Inc.

The London interbank offered rate, or Libor, that banks charge each other for three-month loans in dollars increased to 4.33 percent yesterday, the highest since January, the British Bankers' Association said. The Libor-OIS spread, a gauge of cash scarcity among banks, widened to a record.

``Very strong demand for dollars is still evident,'' said Marc Chandler, global head of currency strategy at Brown Brothers Harriman & Co. in New York.

Payrolls Shrink

U.S. payrolls shrank by 159,000 last month, following a revised decline of 73,000 in August, the Labor Department said yesterday in Washington. It's the biggest loss in jobs since 2003. The median forecast of 76 economists surveyed by Bloomberg News was for a reduction of 105,000. The unemployment rate stayed at 6.1 percent.

``It's not doing any good for money markets and liquidity given the real economy is starting to freeze up,'' said Alan Ruskin, head of international currency strategy in North America at RBS Greenwich Capital Markets Inc. in Greenwich, Connecticut. ``The market is short of dollar liquidity.''

European Central Bank President Jean-Claude Trichet said Oct. 2 that policy makers discussed cutting the main refinancing rate. European economies face ``increasing downside risks,'' he said at a press conference following the decision to keep the benchmark at a seven-year high of 4.25 percent.

Euribor Futures

The implied yield on the Euribor futures contract expiring in March fell to 4.10 percent, from 4.77 percent a month ago. The Euribor contract has averaged 44 basis points, or 0.44 percentage point, higher than the ECB's overnight target during the past two years, Bloomberg data show.

Five European banks including Belgium's Dexia SA, the world's biggest lender to local governments, and Fortis, Belgium's largest financial-services firm, accepted government- backed bailouts this week.

Futures on the Chicago Board of Trade showed a 78 percent chance that the Federal Reserve will cut the 2 percent target lending rate for overnight lending between banks by a half- percentage point at its Oct. 29 meeting, with the balance of bets on a reduction of a 0.75 percentage point. Futures showed no chance of lower borrowing costs a month ago.

To contact the reporters on this story: Daniel Kruger in New York at dkruger1@bloomberg.net; Ye Xie in New York at yxie6@bloomberg.net