How Bad Is the Dollar's Fall? 27 comments
-
Font Size:
-
Print
- TweetThis
The US Dollar has been in decline against the currencies of its key trading partners since January 2002. It takes considerably more Dollars to buy the basket of key currencies than it did in January 2002, but only slightly fewer than it took in January 1995.
What is in the Dollar Index? The Atlanta Fed index is based on 1995–97 bilateral trade weights for 15 currencies. The European subindex includes the European Monetary Union, Switzerland and the United Kingdom. The Pacific subindex includes Australia, China, Hong Kong, Japan, Malaysia, Singapore, South Korea and Taiwan. The Americas subindex includes Brazil, Canada and Mexico. The overall dollar index includes the Saudi Arabian riyal along with the foregoing 14 currencies.
So, where does the Dollar index go from here? Opinions are strongly divided as recent extra volatility in the FX market has shown.
You can place your bet on the US Dollar index with futures contracts, or with one of two ETFs ((UUP) for a rising Dollar, or (UDN) for a falling Dollar).
Is the current situation terrible, because the dollar has fallen so much in the last 6 years - or was the situation in 2002 an artificially high period for the Dollar?
In this week’s Barrons, Carl Weinberg, Chief Economist of High Frequency Economics predicts that the Dollar will rise when the Fed stops cutting and begins raising interest rates.
Certainly, interest rate differentials between currencies and the direction of interest rate changes have strong impact on exchange rates. Mr. Weinberg may be correct that the Dollar will rise when rates rise again, but we think it would be dangerous to make a currency bet on that parameter alone.
Consider the chart below that shows the history of the Fed Funds rate over the period from 1995. It would be quite difficult to draw a cause and effect relationship between Fed Funds rates and the exchange value of the Dollar when you compare their charts.
There are other important issues; including trade balances, inflation rates, real interest rates (nominal rates less inflation), macro-economic reports, geo-political risks, relative central bank rates between countries, and the expectations of speculators who dominate the key exchange markets.
Crisis and panic as we have seen in the credit market as of late, have a significant impact on exchange rates. For example, the FX market lurched in both directions in the days surrounding the Bear Stearns (BSC) collapse and the coping moves made the the Fed.
Exchange rates are a matter of supply and demand of currency pairs. Many factors drive supply and demand.
US Dollar Index Trade Weighted Components:
Investors have single currency access to the six most important currencies in the US Dollar index through these ETFs or ETNs:
ETFs pay distributions and ETNs do not. ETNs incur imputed income tax liabilities according to a recent IRS ruling.
The US Dollar, the Euro and the Yen are most important currencies in the foreign exchange markets by trading volume. Foreign exchange volume is over $2.5 Trillion per day, and is greater in value than the sum of all other investment markets, including stocks, bonds, real estate, and commodities.
Major reserve surplus countries are beginning to diversify their liquidity into multiple currencies. Doing the same with individual liquidity reserves could make sense in some cases. Today there are several vehicles for investors to accomplish currency diversity, if they seek it.
Related Articles
|
-
The Seeking Alpha 100
See allThe top 100 stock
market authors
selected for publication
Seeking Alpha 100 » -
Fastest Climbers
Authors with the largestSee all
increase in followers
in the last 7 days
Fastest Climbers » -
Top Commenters
Top commenters,See all
as ranked by their peers
Top Commenters » -
Top Instabloggers
The 100 most active
Instabloggers.-
1
David Fry
-
2
TraderMark
-
3
Don Dion
-
4
Cliff Wachtel
-
5
Mike Havrilla
Top Instabloggers » -
1
-
Top StockTalkers
TopSee all
StockTalkers.
Top StockTalkers »
This article has 27 comments:
I've been short the Euro for about two weeks now. The dollar recovery has already begun at least for the medium term. Deleveraging will continue to drive inflows into US dollars and the Fed will be up against it to cut much further in the short term. The market knows this but apparently Carl Weinberg is still skeptical/stuck in Econ 101.
Low interest rates and increasing deficits will do that to a currency.
"It takes considerably more Dollars to buy the basket of key currencies than it did in January 2002, but only slightly fewer than it took in January 1995."
Perhaps because those key currencies have also been devaluing by printing money like paper is free? I believe the comparison currencies have also fell to gold, oil, and other commodities and metals, just not as fast as ours has.
As for the relationship between Fed rates and Dollar strength, Euro was at $1.26 when we had 5.25% to burst the housing bubble, then went to $1.59 in anticipation of a full 100 bp cut last Tuesday after the BSC bailout and the new offer of cheap money to nearly everyone with questionable paper as collateral. The Dollar then strengthened because FOMC "only" delivered 75 bp, with two dissensions, and mentioned the word "inflation" in the press release, which I saw as jawboning rather than course correction.
Dollar will remain weak as long as FOMC and the US government continue to do more of what has already weakened it, rate cuts and deficit stimulus, the recent Deficit Stimulus Act being but the first installment of congress bidding for votes with our grandchildrens' money.
Central banks are now intervening to keep the dollar decline moving further. The dollar weakness is threatening how global companies do business. Foreign companies have already complained to government that revenues and profits are being hurt because the revenues earned from America convert to weaker profits in their home countries. Weaker profits make for weaker earnings per share, damping down stock price. On the flip side, the dollar weakness inflates earnings for US companies because of the currency exchange, which is why I'm getting slightly more bearish on US equities.
As a result, central banks are making coordinated efforts to buy more Treasurys, which keeps a further dip in the dollar in check. People's Bank of China, Bank of Japan, Bank of Israel, Bank of England, and the European Central Bank are all accumulating treasurys at these price levels. For instance, if the European Central Bank buys more US treasurys, then it keeps the Euro/USD ratio from rising further, which would hurt profits for companies in the EU. Plus, when the dollar goes up in value, they have an awesome accumulation of treasurys they bought on the cheap.
Thinking an entire country will go belly up is ridiculuous. It's foolish to think we'd go back to a gold standard. We are a global, fiat currency system. One developed country's currency weakness will not undermine every developed country's currency. What next? Are we going to start jumping on horses and stagecoaches because gas is too expensive in the short-term? Yes, there is some doom + gloom being circulated, but don't fall for the gold conspiracy like so many others. Gold is not an inflation play, and it's definitely not a currency play at these levels either.
If you wanna protect, just buy another currency. Although with meaningful central bank interventions around these levels, it may already be too late.
Rather than go to a straight dollar-up fund, I am in ultrashort oil (DUG) and basic materials (SMN) ETFs. I do believe those will be a happy place for a while. Commodities have been doing a mini-bubble that is now correcting, much of it based on the weak dollar. Again, long-term, different story.
Gold is certainly an inflation hedge and while some people will continue bashing the "barbaric relic," it has beat just about any other investment that you could have made over the past 6 years. My money says it will continue to do so and the dollar will continue to lose value. The fundamentals have not changed. The Fed can still lower rates to 0%, as it did during a very similar economic situation in the 70's. Stay long gold and short the markets.
And this is why I don't see a major, long term strengthening of the Dollar, as it would effectively increase the cost of redemption of debt. Most likely is an ad hoc fixing of the Dollar around $1000/gold, so funny-money debt can be repaid with funny-money.
nothing is ever sure. They might as well throw dice as the dice are more predictable.
Could be under Clinton/Obama it is uncovered war was far more expensive than stated & USD keeps going down for several years. Could be under McCain it is not uncovered and people just assume this & USD keeps going down for several years. Could start going up too. Will global currency reserves go below 50% on the USD? Unlikely. If so I'd expect proportional devaluation of USD, and correct for it by estimating shifting distribution in my currency basket.
"so funny-money debt can be repaid with funny-money. " yep.
"if central banks ALL inflate their currencies thus lowering their values, how can we measure any value." IMHO relative to one another via shifting global currency reserve ratios
"Huge "off the books" funding for Iraq and Afghanistan" yep.
"If you wanna protect, just buy another currency." yep. or currency basket at ratio like central bank global reserves such as 60% USD, 30% EUR, 5%GBP, 5%CHF.
"The US Dollar needs to get back on the Gold standard" gee, why not just peg it to the price of a barrel of crude? *sigh*
borrowed for next to nothing to short YEN EUR GBP CAN CHF on their red-days. Like the low-interest CHF was borrowed & converted to short USD against EUR, so low-interest USD could be borrowed & converted to short YEN against EUR.
scriabinop23.blogspot....
Off the book funding for Irak, huge deficit are for me major causes.
But I think that as soon as we get a new President, people will start having hope again. Every new president worldwide brings with him a wave of hope. It can be possible that this wave of hope will restart the economy and restart the US$.
Just my opinion.
FD @ condhotel.com
The pigs are the wisest of all animals.
I personally don't care if the dollar is backed by gold, silver, govt owned land, steel, oil.........but it should be backed mostly by hard assets. Even if the basket of hard assets fluctuates it would prevent them from simply printing money. The booms and busts have always been caused by monopolist, central planners, and government interventionism of one form or another.
The backing of the dollar doesn't have to be perfect I mean because fractional reserve banking isn't perfect. But our currency is almost 100% backed by the faith that our government can pay back all that debt. And now the Federal reserve is backing our currency with bad mortgages. Our government is about to enter an era of forced high spending via medicare and social security. Sounds like our currency is more and more like a house of cards.
I think the fact that oil is traded in dollars is the main thing that has allowed the world market to soak them up without affecting us. Imagine if all those foreign owned dollars all the sudden came over here and were spent. Yes we would all have work but everything would costs so much. Hyper hyper inflation. Our land would be bought etc...
If the Federal Reserve would just bow out after the bail out this time and stop intefering perhaps we could actually work ourselves out of all this debt. Its almost as if they want everyone to be broke.
To put this in perspective, beyond paying for the war, trade deficit, pork barrel projects, global military build up.... do not under estimate what I consider the grandfather of all bear scenario:
The US ENTITLEMENT PROGRAMS (social security, medicare, medicaid, etc) was estimated to be at about 2/3 of the federal budget. This figure is in the trillions of dollars.
MSNBC: www.msnbc.msn.com/id/1.../
The Heritage Foundation: www.heritage.org/resea...
Wiki: wiki.answers.com/Q/Wha...
This will play itself out in the next 20 to 30 years, when 60 million boomers begin to retire. They will be collecting more and using more, and contributing less. Yes, it's payback time for them.
Make not mistake, the US government is bankrupt and has already dipped into the social security cookie jar for sometime. If history repeats itself in fiat currencies, there is a 99% chance that the US government is going to print more and more money. Why else do they stop publishing M3 money supply a few years back.
A second factor that will aggravate the dollar decline is oil, or the lack there of. There are no new and bigger oil fields discovered, there is vehement opposition on oil exploration within the borders of US. Oil can rise to $200, $300, $400.... and the cost of gasoline to string beans will sky rocket.
The public probably thinks that gasoline comes from gas station - NOT. It originates from oil fields. Oil can be at $1,000 a barrel and it is still not a bubble because by definition a bubble is when price increase when there is an excess supply of the item of interest. Again, where are the new and larger oil fields?
The future is bleak for all who holds US$, especially those who are retiring as they are at the end of their productive years and have most of their wealth in the 'safety' of cash.