The euro fell to two-month lows against the dollar on Tuesday in European trade as investors accelerated investment into equities and out of bonds. Recent rallies in global equities have fuelled hopes of recovery in the world?s largest economy, whilst taking the gloss out of bonds, 0 hitherto a crucial support for the single currency.

On Monday, Tokyo stocks closed at their highest since August, eurozone stocks rose at least one per cent whilst on Wall Street, semiconductor stocks were all cheered up by positive brokerage calls. The euro has in the first quarter benefited from increased investment flows due to its yield-enhancing attrait. European rates currently stand at 2.50% against US interest rates of 1% and quasi zero rates for the yen. However, with the market shifting focus back to equities, factors that had supported the single currency now turn out to be liabilities for it.

On the economic front, however, the dollar still begs to convince. Two indicators dominated sentiment last week, leaving market to ponder on the economic conundrums. US labour data was significantly worse than expected, with the unemployment rate rising from 6.1% to 6.4%, the highest level since April 1994.
However, the Institute for Supply Management non-manufacturing data was significantly better than expected at 60.6 versus an expected 55.0. This was the best headline data since September 2000, and the 30-year US bonds suffered a sharp sell-off on the news announcement. Against the Mauritian rupee, the common currency was trading at MUR 33.67 as compared with MUR 34.07 a week earlier.

The yen rose alongside stocks on Tuesday morning in Tokyo after the Nikkei breached the psychological 10,000 level. However, investors were wary of pushing the yen too far as they doubted the sustainability of such a rally whilst nervousness over intervention by the authorities also subsided after last month?s precedence on several occasions.

Between May 29 and June 26, Japan conducted 628.9 billion yen ($5.33 billion) of yen-selling intervention in the foreign exchange market so as the stem the yen rise thereby preserving the competitiveness of Japanese exports. The yen also moved in tandem with the market for Japanese Government Bonds (JGB). JGB drew unusual attention last week because the government was conducting a ten-year JGB auction, its first long-term bond offering since the JGB market started to tumble.

However, last Thursday?s auction failed to attract sufficient funds, being massively undersubscribed. The yen turned grim on the announcement as bond yields soared to one year high. Traders will closely watch this Thursday?s five-year JGB auction as a pointer for market sentiment. Yesterday, the Japanese currency was offered at MUR 25.22 as compared to MUR 24.78 on last Tuesday.

Sterling tracked the euro downward on Monday as investors shunned bonds in favour of equities. Markets were also on tenterhooks as they braced for Thursday first Monetary Policy Committee meeting of Mervyn King, the new Bank of England Governor. Investors are afraid that King might resort to a rate cut, perhaps not this week, but probably next month, following his comments regarding the pound strength earlier last week. King was quoted saying in an interview with Times newspaper that a strong pound could hurt the economy.

Nevertheless, between the two ugly sisters, sterling probably stands out as the Cinderella. Compared to its European and US counterparts, the UK economy appears to better weather out the global recession. Last week, data showed UK services sector remained buoyant. The UK CIPS-Reuters index of services sector activity jumped to 54.5 in June from 51.9, above the 50 level which demarcates economic expansion from contraction. Yesterday, the pound was trading at MUR 49.07 as against MUR 49.04 on last Tuesday.

Contribution by HSBC