Dollar Dives

24 April 2008

European and us stocks had a fairly quite time in November, with marginal movements. In the US the Dow built on the records set in October, moving as high as 12400 points at one stage, before falling back to 12280 by the end of week 47. Still, it put on a gain of +1,35% between weeks 42 and 47.

In Europe the DAX Composite did better with a +2,37% gain, although there were narrow losses for the CAC 50 and FTSE 100. In contrast, the Japanese stock markets took something of a dive, with the Topix 500 dropping -7,51% over the five-week period. This seems to be a symptom of uncertainty about the strength of the Japanese economy. Although it has been a good year in general, there is clearly still some concern about the robustness of the recovery.

Construction Shares

The construction sector mirrored the wider indicators, with the CET Index for the whole industry putting on a marginal +0,80% over the five week period. Contractors’ shares put on the best gains, with a +2,58% rise, and on the way the CEC Index hit a new high of 228,93 points. In contrast, there was only a marginal improvement for equipment manufacturers, and a small slip for materials producers.

So contractors’ shares remain the success story of the construction industry, and most companies within the CEC Index had a good time in November. Only Bam saw a serious slump, due to a profits warning in week 47. Other losses in the sector were fairly small, and generally confined to the Nordic and German companies.

These losses were more than offset by some notable gains. Amec’s shares rose +11,29% between weeks 42 and 47 on takeover speculation. Another strong performer was OHL, which enjoyed a +22,97% rise on the back of improved expectations for its full-year results.

OHL is also the subject of a takeover bid, with its chairman, Juan-Miguel Villar Mir, who already owns 50,72% of the company bidding to fully acquire it. Curiously, the offer price has been set at € 15,62 per share, well below OHL’s current level of € 22,16. Indeed, the company has traded consistently above this level since late September, so it seems likely the offer will have to be increased if it is to be successful.

Takeover activity also seems to be playing its part in the materials sector. On the down side, the announcement that Schneider Electric plans to pay US$ 6,1 billion (€ 4,69 billion) for American Power Conversion (APC) was not well received by its shareholders. Schneider lost -10,61% of its value in the five weeks under review, with the general view seeming to be that it is paying too much for the US manufacturer of specialist power supplies.

On the positive side, Saint-Gobain’s shares moved higher on takeover speculation. Rumours abound that the company may be a target for a private equity bid, and Lafarge has also been mentioned as a possible buyer.

Elsewhere in the sector Heidelberg Cement, Holcim and Lafarge all moved up on good third quarter results. However, the various gains were wiped-out by Schneider’s losses, and the CEM Index ended down -0,28% for the five week period.

Share movements for global equipment manufacturers reflected the wider regional trends in November. Most of the losses were among the Japanese manufacturers, while the most useful gains were seen for US companies, most notably CNH, Deere, Manitowoc and Terex.

Again, as reflected in the mainstream indicators, European shares in the equipment sector had a fairly flat five weeks. This combined with the down-beat performance of Japan’s manufacturers to more or less cancel out gains in the US, and the CEE Index moved ahead just +0,54%.

Currencies

November saw a sharp decline in the value of the US Dollar. The Euro gained +4,28% against the Dollar between weeks 42 and 47, and at € 1 = US$ 1,308, it finished the period at the highest it’s been since the summer of 2005. The Euro’s all-time high against the Dollar is € 1 = US$ 1,3667, which it hit in December 2004.

It is also worth noting that the Pound hit a 14-year high against the Dollar around the same time. In late November it was trading around UK£ 1 = US$ 1,95, a level it last reached in September 1992, just prior to the ‘Black Wednesday’ collapse when attacks by currency speculators forced the UK government to withdraw from the European Exchange Rate Mechanism (ERM).

This sudden slump in the Dollar, which had been fairly stable since early May, was triggered by comments from China’s Central Bank. With data pointing to an economic slowdown in the US, the Bank is keen to ditch some of its Dollars - it is reported to hold some US$ 1 trillion of reserves and US$ 340 billion in Treasury Bonds - in favour of fundamentally stronger currencies like the Euro.

The Chinese Central Bank has also bowed to pressure to allow its own currency, the Yuan, to float more freely in the last 18 months. It abandoned the ‘peg’ of US$1 = CNY 8,28 in the summer of 2005, and the Yuan has risen about +5% against the Dollar since then. Given this situation it obviously doesn’t make sense for the Bank to hold Dollars that are worth less and less as the months tick by.

Federal Reserve chairman Ben Bernanke has been doing his bit to talk-up the Dollar while this has been going on, saying he is still worried about US inflation and that interest rate rises are a possibility.

However, recent data points to a bigger slowdown in the US next year than previously expected. The Organization for Economic Cooperation & Development (OECD) for example has cut its forecast for US GDP growth next year to +2,4%, compared to the +3,1% predicted six months ago. This and other indicators would suggest a cut, rather than rise, is likely to be the next interest rate move in the US.

If this is the case, it points to further slumps for the Dollar and appreciation of the world’s other major reserve currencies; the Euro, Pound, Yen, and to a certain extent the Swiss Franc. The relationship between the Pound and Euro is fairly benign at the moment, but the Yen is proving something of an enigma. While it has fallen to an all time low against the Euro - at its weakest € 1 = JPY 153 - it has risen against the Dollar on the back of better than expected economic data.

Outlook

The broad outlook for 2007 is of accelerating growth in Europe and Asia compared to a slowdown in the US economy, led by the house building sector. This would suggest the Dollar is set to fall further against the Euro, Yen and Pound, which will be a concern to exporters in these currency regions selling into the US.

Having said that, a weak Dollar would be a major boost to US-based exporters and the economy in general, so after a while, equilibrium should be reached. Where that balance lies, and when it will be reached are spectacularly good questions.       ce

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