AS THE U.S. $ WEAKENS GOLD WILL SKY-ROCKET
Lehman, Most Accurate Forecaster, Predicts Dollar Will Weaken
Oct. 22 (Bloomberg) -- Lehman Brothers Holdings Inc., the most accurate forecaster of exchange rates in the third quarter, predicts the dollar will drop to a record low against the euro in the next 12 months.
The bank's currency strategy team expects the dollar to weaken to $1.32 per euro in a year from $1.2616 at 6 p.m. in New York. Lehman also projects the dollar will decline to 105 yen in three months and 99 in 12 months, a level unseen since 1995.
Against the euro, the dollar fell 1.9 percent from July to September, the first quarterly decline in three. It's poised to weaken as the U.S. trade deficit widens and foreigners scale back investment, said Jim McCormick, Lehman's head of currency research. The dollar is down 0.2 percent versus the euro since Dec. 31, and has fallen 7.2 percent from its high of $1.1761, giving up gains made on speculation the Federal Reserve would lift interest rates.
``The surprise investors had to deal with this year was the dollar getting support from rates rising sooner than expected,'' said London-based McCormick, 36, who joined Lehman in 2001 from JPMorgan Chase & Co. ``That support is now fading and focus will shift back to the fact the U.S. has too high a current account deficit.''
The shortfall in the current account, the broadest measure of trade, widened to a record $166.2 billion in the second quarter. The gap is equivalent to 5.7 percent of the economy, up from 5.1 percent in the first quarter. The current account is a measure of trade, services, tourism and investments.
Margin of Error
Lehman participated in a Bloomberg survey of 50 financial firms seeking predictions for the dollar against the euro, the yen, the pound and the Swiss franc and their respective rates against each other. The percentage difference between each estimate and closing prices in New York, according to EBS, an electronic foreign-exchange trading system, were then calculated to give an average margin of error.
Lehman's forecasts had an average margin of error of 1.44 percent. 4Cast Ltd., a London-based economic consultancy, ranked second with a margin of 1.56 percent, and HSBC Holdings Plc was third with 1.61 percent. Bank of America Corp., which came first in the second quarter, slipped to 32nd with a margin of error of 3.52 percent. BNP Paribas SA was last with 5.65 percent.
Lehman shared first place as the best forecaster of the euro against the dollar last quarter. The firm predicted a dollar drop to $1.24. The U.S. currency ended September at $1.2435.
Wednesday Huddle
The bank's currency strategy is developed in weekly meetings in McCormick's office off the bank's trading room on the fourth floor of its European headquarters at London's Canary Wharf.
Each Wednesday at 3 p.m., McCormick is joined by Ryan Faulkner, a former Fed employee who covers the 10 most actively traded currencies. Steve Ellis, who is responsible for Eastern Europe, and Anne Sanciaume, in charge of monitoring volatility, are also among team members present. Danny Tenengauzer dials in from New York.
The conclusions of the team meeting are published the next day in the bank's Global Foreign Exchange and Local Market Strategies report, after which the team makes the recommended trades, meaning they feel the pain of a losing position and benefit from a winning strategy.
``There's always debate on the strategies, but we need to have a `yes' from everyone in the group -- everyone has a veto,'' said Tenengauzer. ``Once or twice a week, we'll talk to discuss the positions, usually on Wednesday, then we'll pull the trigger on Thursday.''
The group pours over economic statistics such as the U.S. Labor Department's monthly non-farm payrolls figures, the Bank of Japan's Tankan survey of business confidence and comments by central bankers including Fed Chairman Alan Greenspan and European Central Bank President Jean-Claude Trichet.
Retreating Yields
The team also discusses commodity prices, stock and bond markets and their possible impact on currencies. At the Sept. 16 gathering, they concluded the dollar would probably weaken as yields on U.S. Treasury notes retreated. Since then, the dollar has shed 3.5 percent against the euro and the 10-year Treasury yield dropped as low as 3.98 percent on Sept. 22, a level unseen since April.
``Even though the Fed is raising rates, the dollar is locked in a low-yield environment,'' said Faulkner, a 31-year-old native of Greenville, South Carolina, who spent a year at Chile's central bank managing its foreign reserves before joining Lehman.
The Fed raised its benchmark rate by a quarter point three times this year, beginning on June 30, to 1.75 percent. The increases were the first since 2000 and followed 13 cuts to a four-decade low.
`Frustrating' Year
The dollar's path this year hasn't always matched Lehman's predictions for a decline. The U.S. currency rallied 9 percent from a record low of $1.2930 per euro to $1.1761 on April 26, spurred by stronger-than-expected U.S. jobs growth and signals from Fed officials they were poised to lift rates. At that time, Lehman scaled back its 12-month forecast for the euro to $1.28 from $1.35, said Tenengauzer.
``Being a dollar bear this year has been frustrating,'' said Faulkner, who checks overnight currency prices and stock indexes from Asia each morning before heading to the London Underground for the 40-minute ride to Canary Wharf. ``We stick to what we are trying to do and go back to what we know, but you do second-guess yourself.''
Lehman is increasingly confident the dollar will weaken, said McCormick. Ten-year Treasury yields hovering at about 4 percent suggest U.S. bonds may not attract sufficient foreign investment to compensate for a widening current account deficit, he said in a telephone interview from Italy, where he was visiting customers.
`Break Lower'
The dollar is down 2.6 percent since Oct. 6 as the yield advantage of the 10-year U.S. Treasury note over a German government bond with a comparable maturity narrowed 11 basis points to 16 basis points, the smallest in about three weeks. A basis point is 0.01 percentage point.
The U.S. current account shortfall increased to a record in the second quarter, the most recent figures available show. The U.S. needs to attract $1.6 billion a day to counterbalance the deficit, according to Bloomberg calculations.
``Bond yields are signaling more strongly than at any time this year that there will be a possible break lower in the dollar,'' said McCormick.