Dollar Bounce On The Cards?
Last Wednesday, Watchdog pointed out that the move through US$1.3000/EUR would set up euro gains towards US$1.3800/EUR. At US$1.3400/EUR, I wrote on www.businessmonitor.com that US$1.4900/EUR was a realistic possibility, as the dollar would come under renewed pressure due to Fed easing, in both conventional monetary policy and quantitative terms.
In fact the dollar has depreciated against a host of global currencies, not just the euro. The latest leg down over the past two days is of course due to Ben Bernanke’s decision to aggressively lower the Fed Funds rate to a target rate of 0% to 0.25% and to reiterate that he will ‘employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability’. Given the strong desire on the part of Bernanke to reflate at all costs, given the deflationary forces at play and the perilous state of the US economy, it would not be unreasonable to assume that the current market trends are likely to run further. As the Fed continues to buy US debt instruments, the attraction of holding dollars diminishes.
However, despite the Fed’s actions, I do not see policy rates normalising before 2010, given the ongoing recessionary environment in the US. Indeed I have revised down my growth forecast for the US to -2.0% in 2009 and 0.8% in 2010. As a result, I expect a further round of deleveraging in 2009, which will give upside impetus to the dollar as equity market bear trends resume once the current equity bounce has played out.
Exchange Rate – US$/EUR
Then again, is the current euro rally petering out, ahead of any equity market reversal? The short-term relative strength index (RSI) is in extremely overbought territory, and as today’s chart shows, the US$1.4720/EUR area has clearly acted as strong euro resistance, or dollar support. If the market were to close tonight around the current levels – US$1.4450/EUR – then I would expect the dollar to bounce over the coming days, possibly back to the US$1.3600/EUR area. The risk to this view is a move back above US$1.4720/EUR, which would presage a move to the US$1.5000/EUR region.
A comment posted last week asked about my view on sterling. Well, beyond the short-term, I have to remain bearish, given the ever deteriorating macro picture in the UK – retail sales and housing market collapsing, unemployment rampant – and interest rates converging rapidly towards those in the US. Interestingly sterling did not rally against the dollar in the same manner as the euro. In fact, sterling hit new lows against the euro of GBP0.9556/EUR at one point. Yes, that’s right, it’s nearly at parity with the euro. The cost of my skiing holiday just went through the roof! On an RSI basis, the euro is very overbought, though, as with the US$, and I would expect some retracement. Still, against the dollar, the fact that sterling never made a clean push higher is worrying for the UK currency. Any move back through US$1.5200/GBP opens up US$1.4700/GBP. Short-term movements aside, though, the medium-term fundamentals for the UK currency are decidedly poor.
As for the dollar, following further deleveraging in 2009, the currency is at risk of becoming extremely over-valued due to the fiscal loosening currently being enacted. Indeed, with rates at virtually zero, as the global economy stabilises, the dollar could be viewed as a funding currency for more interesting carry opportunities. Let’s face it, things are pretty bad when your benchmark interest rates are now below those of Japan.