Dollar Can't Have It Both Ways This Week

It's an either/or scenario for the dollar this week, with the greenback likely to either fall against the euro and rise against the yen, or rise against the euro and fall against the yen.The performance of U.S. and global stock markets is likely to play the key role in the path the dollar takes, especially after a meeting Friday of finance ministers from the Group of Seven leading industrial nations failed to provide any surprises for currency markets.The final draft of the G7's post-meeting statement said exchange rates should "reflect economic fundamentals" and that "excess volatility and disorderly movements" are undesirable. Such remarks are typical post-scripts to G7 meetings.Also as expected, the statement didn't specifically mention the dollar's weakness or the euro's strength.On the surface, this now sets up the dollar to continue its descent against the euro this week. Analysts said it could easily plumb new depths this week as investors sell the greenback on expectations of further U.S. economic weakness and likely interest rate cuts by the Federal Reserve.This scenario could boost the dollar against the yen, as a focus on rate cut expectations might help struggling U.S. equity markets rebound from their heavy losses last week.But on the flip side, if stock markets continue to suffer this week, risk aversion could quickly become the driving force in currencies.This would allow the dollar to reverse some of last week's losses against the euro, as investors would likely pull out of their riskier bets on the euro and other higher-yielding currencies funded by the yen, or in some cases by the dollar. Analysts say the dollar is being used more frequently as a funding currency due to general dollar weakness and a trend toward lower U.S. interestrates.The dollar would likely fall versus the yen, however, if stock markets keep ticking lower - since risk aversion typically benefits the yen more than all other currencies."It's a tricky week for the dollar, and the question is which forces are going to dominate? Investors' sentiment and risk aversion, or rate expectations?" said Rebecca Patterson, global currency strategist at JP Morgan in New York. "The problem is that investor sentiment is constantly shifting, sometimes every five minutes."Against this backdrop, currency analysts said the euro could trade in ranges between $1.4175 and $1.4375, while the dollar could trade between Y114.0 and Y116.0.Friday afternoon in New York, the euro was at $1.4295, little changed from $1.4293 late Thursday, while the dollar was at Y114.79, down from Y115.63. The euro was at Y164.12, down from Y165.31. The U.K. pound was at $2.0500, up from $2.0448, according to EBS. The dollar was quoted at CHF1.1678, down from CHF1.1703.Post G-7 Has Been Good To GreenbackTom Levinson, vice president of foreign exchange strategy at ING Wholesale Banking in London, said that based on an analysis of recent G7 meetings, he believes the dollar could rise next week against its rivals."We looked at G7 meetings starting from 2005 ... and found that the dollar typically does well in the week that follows," he said.While the post-meeting statement failed to call out the dollar's weakness or the euro's strength as worrisome developments, it did highlight the Chinese yuan, saying China needs to accelerate the appreciation of its currency.The G7 praised China for its decision to make its currency more flexible, but added: "In view of its rising current account surplus and domestic inflation, we stress (China's) need to allow an accelerated appreciation of its effective exchange rate."This, analysts say, might give the yen some support this week, as any perceived strengthening in the tightly-controlled yuan could have a similar effect on the yen, a proxy currency of sorts for all Asian currencies.U.S. Treasury Secretary Henry Paulson, speaking to reporters after the G7 conference, reiterated the G7's call for currencies to reflect fundamentals and added: "I believe in a strong dollar." He's made such remarks many times in the past.Light Week For US Data, Fed SpeakersThe slate for U.S. economic data out next week is light, but an existing home sales report Wednesday and new home sales data out Thursday are sure to be closely watched by currency investors and could work against the greenback versus the euro.While everyone knows the U.S. housing market is weak, miserable data out last week on housing starts showed that these reports still have the potential to cause harm to the greenback."You can still get a pretty negative reaction to U.S. housing data," Levinson said.Other data include durable goods Thursday and the Reuters/University of Michigan consumer sentiment survey, due Friday morning.Overseas, a key report will be Germany's Ifo business climate survey, due Thursday. Economists say it should ease back only modestly in October on higher oil prices and a strong euro, while the impact of the credit crunch continues to filter through.Meanwhile, the slate for speeches by Federal Reserve officials is also light this week, perhaps given that they tend to rein in their public comments about a week before policy meetings.On Oct. 30 and 31, the Federal Open Market Committee meets to determine whether to adjust rates again after it cut the federal funds rate to 4.75% last month on signs of a slowing U.S. economy.Fed Governor Randall Kroszner speaks Monday morning in Washington, while newly installed Chicago Fed President Charles Evans speaks Monday evening on his home turf.Finally, Fed Governor Frederic Mishkin speaks in New York this Friday.Markets are now giving nearly 100% odds that the Fed will cut rates another 25 basis points at its end-of-October meeting.Analysts say it will be interesting to see whether Fed officials make comments next week to try to alter those expectations if they don't believe the market has it right.Fed Chairman Ben Bernanke said Friday that rate policy predictability is "critical," which might suggest that the Fed doesn't want to surprise the markets with its rate decision this month after its greater-than-expected half-point cut in September.