Emerging FX-Euro strength boosts rand, central Europe

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Emerging currencies firmed on Tuesday as euro strength helped central Europe extend gains to multi-month highs and boosted the South African rand above 7 per dollar for the first time in almost four months.

Analysts said however that gains were likely to be capped at these levels before a U.S. Federal Reserve policy meeting.

While no U.S. policy change is expected this time, markets want to gauge the Fed's view on the 2007 growth outlook and hints as to when interest rates could start heading lower. U.S. trade numbers are also due at 1330 GMT.

Another positive for emerging markets was the weakness in yen, a favourite funding currency for carry trades. The currency fell to a record low versus euro.

Danske Bank senior analyst Lars Christensen said central Europe was benefiting from renewed confidence in the euro zone economy, the region's main trade partner.

"The entire region looks buoyant. Basically the reason we are having strength in central Europe is the underlying strength of the euro. The currencies are becoming a proxy for the European growth story and as long as euro zone growth stays buoyant, you can count on good growth in central Europe as well," Christensen said.

"This is very much a growth optimism story," he added.

The positive sentiment was underscored by the ZEW index that showed investor sentiment in Germany, the biggest euro zone economy, rose more than expected in December.

The biggest recent gainer has been the Slovak crown which hurtled to a new record high against the euro at 35 . Higher-than-expected inflation has stoked hopes of an interest rate rise on Dec. 19 from the current 4.75 percent.

The forint firmed to a 9-1/2-month high, crossing key resistance at 255 per euro after data showed the pace of inflation quickened slightly in November to 6.4 percent. But analysts expect Hungarian rates to stay at 8 percent next week.

"The forint went through stops around 255. There was one big euro buyer keeping it capped last week that is now gone and now it's a pure stop loss run," a trader in London said. "Now we are getting offers coming in at 255."

The zloty underperformed, rising 0.14 percent to 3.81 per euro partly due to political worries and the low interest rate differential with the euro zone. Traders also cited some relative value trades, as investors went short zloty versus the Slovak crown.

"The big money players are not that worried about the politics but the zloty did firm quite a bit recently when the forint underperformed," the trader added.

Elsewhere, the rand jumped to a near four-month peak at 6.97 per dollar, a gain of half a percent thanks to the strong euro, the currency of its main trade partner.

"Of course this has a lot to do with how quickly the euro has moved up versus the dollar. But we have also seen quite good data recently, including GDP and Q3 current account deficit numbers," said Madhur Jha, economist at IDEAGlobal in London.

"Our expectation is that the U.S. dollar will weaken further so there is more scope for rand gains," Jha said, forecasting a rate of 6.85/6.90 per dollar by year-end.

She said the central bank will keep mopping up dollars from the market but its last policy statement showed it was more concerned about inflation than the current account, meaning it will not be too uncomfortable with the rand's appreciation.

"The rand is set to benefit from euro strength together with yen and dollar weakness," Christensen of Danske agreed.

The lira was flat after firming nearly 0.9 percent to a seven-month high on Monday on news the European Union agreed to suspend only eight chapters of Turkey's EU accession talks.

This had already been factored in and markets were relieved that tougher measures had not been imposed.

[LONDON/Reuters/Finance.cz]