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Tuesday 26 October 2010

Dollar doldrums: No end in sight

10 Yr Treasury vs USD Index:
Economic Analysis By HiddenLevers

Aug 1
Aug 16
Sep 1
Sep 16
Oct 1
Oct 16
2.3%
2.4%
2.5%
2.6%
2.7%
2.8%
2.9%
3.0%
3.1%
76
78
80
82
84
5d | 1m | 3m | 6m | YTD | 1y | 5y | 10y | All Economic Analysis By HiddenLevers


NEW YORK (CNNMoney.com) -- All hail the puny dollar?

The greenback slipped once again Monday morning, falling to a new 15-year low against the yen. The dollar also fell against the euro and pound.
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The renewed dollar sell-off comes after global financial ministers pledged to avoid currency wars at the conclusion of the G-20 meeting in South Korea Saturday.

Accusations of currency manipulation have roiled financial markets, with U.S. officials expressing frustration about how artificially low they believe the Chinese yuan is when compared to the dollar.

But global traders are continuing to sell the dollar. And that's because, somewhat ironically, many investors feel that the U.S. may be doing some manipulation of its own -- intentional or not.

The Federal Reserve is widely expected to unveil a new round of asset purchases at its next policy meeting, a two-day session that wraps up on November 3.

This so-called practice of quantitative easing is generally viewed as bad for the dollar because the Fed would be essentially printing money in order to pay for the long-term bonds it plans to buy.

Michael Pento, senior economist with Euro Pacific Capital in Westport, Conn., said that more quantitative easing is troubling because it may discourage foreign investors from buying the dollar, which is something they did in droves during the height of the financial crisis of 2008.

At that time, the dollar was still viewed as a safe bet and its status as the world's reserve currency was not in doubt. Pento worries that this may not be true for much longer.

"The dollar is being destroyed on a daily basis," he said. "Another massive round of easing would put everyone on notice that if you are seeking to hide in our dollar you will be severely punished."

The fear is that if the dollar continues to fall, foreign creditors will eventually get tired of the weak dollar and sell their Treasuries. That would push long-term yields much higher and could help bring about inflation.

So far though, as the chart at the top of this column shows, long-term yields have been edging lower even as the dollar continues to fall.

Along those lines, not everyone is sweating the weak dollar. Alex Bellefleur, financial economist with Brockhouse Cooper, a brokerage firm in Montreal, said it's worth noting that the stock market has been rallying as the dollar has weakened.

"The U.S. dollar has been the laggard in international currencies. But that could help in terms of boosting exports and earnings for large companies," Bellefleur said. "We don't think this is something that's negative in the near-term."

The problem is that at some point though, the cons to the weak dollar will outweigh the pros.

Pento said that if the widely-watched U.S. dollar index, which measures the dollar against a basket of key currencies, falls below 70, that could jeopardize the dollar's standing around the world. That index is currently around 77.

But Bellefleur doesn't think that the dollar will slide that much more. He said that for the dollar to truly lose its reserve status, something has to replace it. And he doesn't believe that will happen anytime soon.

"There are still no alternatives to the dollar as the world's reserve currency. The euro used to be viewed as possibly being one but people have had second thoughts about that," he said.

Dean Popplewell, chief currency strategist for Oanda, a Toronto-based foreign exchange broker, said investors should not forget gold. He noted that weakness in the dollar has coincided with the record run in the yellow metal.

So while investors may not think the euro can replace the dollar, gold -- which risk-averse investors love because of its tangible nature -- may be another story.

"At the moment, gold is trading as if it's the reserve currency. People want commodities over the dollar," Popplewell said.

Popplewell added that as long as the Fed has an easy money policy in place, the weak dollar trend is likely to continue. He predicts that the euro, currently trading around $1.40, could climb as high as $1.46 before the year is out.

"There will come a time when the dollar stops depreciating. But right now everyone has the same bet. It's a one-way, lemming trade," he said. "There is no money to be made on betting on the dollar at this point."

- The opinions expressed in this commentary are solely those of Paul R. La Monica. Other than Time Warner, the parent of CNNMoney.com, and Abbott Laboratories, La Monica does not own positions in any individual stocks.  To top of page 

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