Dollar hits 2-month low against euro

The dollar fell to a two-month low against the euro on Monday with some analysts putting the US currency’s weakness down to continued tension over Iran’s nuclear programme.

However, Simon Derrick, chief currency strategist at Bank of New York, said the dollar’s relatively muted response to developments in Iran was a sign that the market had largely become immune to geopolitical risk.

According to Mr Derrick, the most direct example of this “flight to risk” has been the collapse of currency options prices. He said such had been the drop in the price of three-month euro/dollar currency options that they were now implying the next quarter would see the quietest trading period ever in the currency pair.

“Although this is possible, it certainly lies at the lower reaches of the probability scale,” said Mr Derrick.

By mid-afternoon in New York, the dollar was 0.1 per cent weaker at $1.3175 against the euro, having fallen earlier to an eight-week low of $1.3198 earlier in the session.

Adrian Schmidt, senior foreign exchange strategist at Royal Bank of Scotland, said the dollar’s weakness might also reflect concern about the weakness of the US subprime mortgage market.

“Logically, there seems little reason for concern, as subprime problems will damage some lenders’ profits, but are not going to have a general impact on the corporate sector or the consumer sector,” said Mr Schmidt. “We would therefore be wary of getting over bearish of the dollar here.”

Analysts said that any significant movement in the dollar in the near term was likely to be driven by a flurry of US data releases over the next couple of weeks.

Gavin Friend, strategist at Commerzbank, said this week the market was likely to be focused on the forward-looking US ISM manufacturing index, due for release on Thursday.

Mr Friend said he expected the index to come in at 48.3, below the important 50 mark that signals a contraction in the US manufacturing sector. “With the consensus looking for a steady 50, a reading in line with our own could be sufficient to test the January high at $1.3295 in euro/dollar and perhaps the 2006 high at $1.3365,” he said.

The dollar also lost ground against the yen, dropping 0.4 per cent to Y120.55 as Yasuhisa Shiozaki, Japan’s chief cabinet secretary, said the end to Japanese deflation was “in sight”.

But Marc Chandler, foreign exchange strategist at Brown Brothers Harriman, said with the Bank of Japan widely expected to keep interest rates on hold until Upper House elections in July, low yields were expected “to come back and haunt the yen”.

He said that for the time being, the repatriation of Japanese capital ahead of the fiscal year-end and continued foreign demand for Japanese bonds and stocks were conspiring to lend support to the yen.

The yen rose 0.3 per cent to Y158.81 against the euro and climbed 0.3 per cent to Y236.80 against sterling.

The New Zealand dollar rose to a 14-month high against the dollar after robust business confidence data led to increased expectations that the Reserve Bank of New Zealand would raise interest rates at its policy-setting meeting next week.

The kiwi rose 0.9 per cent to $0.7123 against the dollar.

The Icelandic krona hit an 11-month high of IKr65.47 against the dollar and a 14-week peak of IKr86.22 against the euro after Moody’s, the credit rating agency, upgraded three of Iceland’s banks by more than expected as part of a broad review of its ratings system.

James Knightley, at ING, warned that while the news might cause some analysts to review the “catastrophe” story surrounding the Icelandic economy, inflationary risks remained.