“What we’ve seen is a continued rally in risky assets — equities, commodities and emerging markets,” said Michael Woolfolk, senior currency strategist at the Bank of New York Mellon (NYSE:BK).

It’s “the green-shoots rally that has really perpetuated the dollar sell-off in recent weeks,” Woolfolk added. “It’s not being driven by fundamentals but market sentiment.”

The buck was strong as long as economic turmoil and fear dominated market thinking, with the currency seen as a safe haven. Now, however, the appetite for riskier investments is on the rise “across the board,” notes Kenneth Broux, of Lloyds TSB in London. “It certainly looks like there is a great acceleration in recent trends.”

Among the day’s numbers, the Institute of Supply Management’s national manufacturing index rose to 42.8 in May from 40.1 in April. That bettered economists’ expectations for a reading of 42, but anything below 50 indicates that industry is still contracting.

Meanwhile, the Commerce Department reported a 1.1% rise in disposable incomes in April, which mostly went into savings rather than spending. The personal savings rate jumped to 5.7% in April, a 14-year high.

Real consumer spending fell 0.1%, the second consecutive decline and the 8th decline in the past 11 months. Inflation was relatively tame in April, with consumer prices rising 0.1%, and core prices — which exclude food and energy – up 0.3%.

Source: Dollar Weak Against Euro

The buck sagged as the banking sector was swamped with negative sentiment about earnings, driving down stocks and stoking worry that the Fed will be unable to raise interest rates anytime soon.

The situation is so bad that, as Dow Jones MarketWatch wrote, “Analysts at Merrill Lynch on Friday said investors appear to be capitulating with regards to banks stocks, frustrated into selling them down to levels below their real values as the credit crisis continues to wreck balance sheets. The analysts also slashed their earnings outlooks for several large regional banks and said they will continue boost loss reserves and cut dividends.”

In some instances, banks’ book values now exceed their market caps.

For its part, the euro was buoyed by a report from Germany’s statistical agency showing that producer price inflation rose 1% in May, yielding 6% annual growth, stronger than expectations.
That data “will help cement the view” that the European Central Bank almost certainly will move to raise rates when policymakers meet July 3, wrote economists at Lloyds TSB.

Source: Dollar Hits the Skids

Bankers rejoiced. Finally, they could shift the festering lumps polluting their balance sheets and move on. Crucially, the estimated £50bn measure leaves the risk with the banks and not the UK taxpayer via the Bank of England. The fall in the interbank lending rate suggests it has done something. The benchmark three-month Libor is now 5.88%, edging down from a high of 6% earlier in the month.

How bad a bind are UK banks in? The big four – RBS, Barclays, HBOS and Lloyds TSB – are short £37bn, calculates JP Morgan. And on Tuesday RBS announced itself as the first to go cap in hand to shareholders for £12bn. Others are expected to do the same, though Barclays later denied any such plans.

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Tight food supplies continue to make the news in the developing world and the World Bank warns of potential unrest in 33 countries as a consequence. Reports of rationing in the US continue, with even the likes of US retail giant Walmart restricting some food purchases and Costco considering a similar measure.

Ironically, one of the world’s bread baskets, Argentina, is suffering food shortages after farmers responded to a new export tax by blockading roads and restricting supply. The ongoing dispute claimed its first casualty on Friday when its Economy Minister, Martin Lousteau, quit.

In Japan $116 oil and dearer food may have actually killed off a decade long problem – deflation. Its core CPI inflation leapt to 1.2% and panicked investors fled the bond market.

In the equity markets, stocks look to be end the week on a firmer note. London’s FTSE recaptured the 6,000 level on Friday at 6,083. The Dow is at 12,848 in mid-Friday afternoon trade and gold has pulled back to $883. Oil, having hit $120 has shed around $5 as the dollar has strengthened.

Finally, there is no sermon again this week as Peter continues his well-earned break. He will be back next week.

Enjoy your week-end.

Regards,

Rob Mackrill
The Daily Reckoning