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Financial Times: Dollar fear sparks rush to oil and gold

By Javier Blas in London and Michael Mackenzie in New York
Published: January 2 2008 19:00 | Last updated: January 3 2008 00:37

Crude oil prices briefly hit the $100-a-barrel mark and gold prices jumped to an all-time high as investors poured money into commodities on Wednesday amid deepening fears about the weakness of the US dollar.

The oil price rally soured the first stock trading day of the year, with the Dow Jones Industrial Average closing 1.7 per cent lower, its worst start since a slide of 1.9 per cent on the first day of trading in 1983.

The dollar fell against the euro and the yen after a report that showed the US manufacturing sector slumping to its lowest levels in five years during December. Investors bet that the Federal Reserve would be forced to lower interest rates in response to economic weakness, potentially increasing the downward pressure on the dollar.

The $100-a-barrel level was reached as the result of a single trade by two independent traders – known as locals – at the Nymex floor, industry sources said.

Before the trade, oil prices were at $99.53 a barrel. In spite of the controversy about the single trade, crude oil closed up $3.64 at $99.62 a barrel in New York. The White House said President George W. Bush would not tap the Strategic Petroleum Reserve and was focused on other ways to boost US oil supplies.

The Institute for Supply Management said that its manufacturing index for December fell to 47.7, its lowest level since April 2003 and well below 50.8 in November. A reading below 50 indicates a contraction in activity and has historically served as a harbinger of recession.

TJ Marta, fixed income strategist at RBC Capital Markets in New York, said: “A further decline in the overall index below 45 would be consistent with the recessions of 1990-91 and 2001.”

Minutes from the Fed’s meeting in December, released Wednesday, revealed that policymakers “agreed on the need to remain exceptionally alert to economic and financial developments and their effects on the outlook”. The minutes said “members would be prepared to adjust the stance of monetary policy if prospects for economic growth or inflation were to worsen”.

Investors sought the safety of government bonds, sending the yield on the policy-sensitive two-year Treasury down to 2.88 per cent from 3.02 per cent. Interest rate futures fully priced in a quarter-percentage point rate cut to 4.0 per cent by the Fed by the end of this month.

The dollar fell to $1.4750 against the euro. Sterling also took a battering after weaker than expected purchasing managers’ data suggested the UK economy may also be facing a more severe slowdown than thought. The pound fell 1.3 per cent against the euro to a record low at £0.7447 and by 0.3 per cent against the dollar to $1.9791.

Gold was boosted by political tensions in Pakistan and the search by investors for hedges against inflation and further dollar weakness. Spot bullion prices in London hit a record $861.10 an ounce, above the previous peak of $850 an ounce reached in January 1980.

“People seem scared from a number of factors – an inflation spike, further US dollar weakness or systemic financial risk,” said John Reade, precious metals strategist at UBS in London.

Crude oil prices were also boosted by renewed tension in Nigeria, Africa’s biggest oil producer, and news that Chinese refineries are running at record levels to offset a gasoline shortage.

The US data also put pressure on stocks in Europe, with the FTSE 100 off 0.5 per cent and the FTSEurofirst index falling 1.2 per cent.

Additional reporting by Neil Dennis in London
Copyright The Financial Times Limited 2008

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