Dollar Remains in the Driver’s Seat

I was reading a good, thoughtful story about how currency swings could be dying down, as we return to fundamentals. You know, me… I jumped from my chair, and click my heels together in joy! OK, I’m not physically able to do that any longer, so I did it in my mind! But a return to fundamentals? I’m all over that like a cheap suit! One of the fundamentals that the story highlighted that would be taken into consideration by traders, would be interest rate differentials… Which, I’ve always considered to be a strong reason to own a currency, but not the “end-all”…

There’s a currency-purchasing program that’s called the “max yield program”. With this program, a currency holder buys the highest yielding foreign currency each year… It may be the same currency come the next year, or it may be different, which would require one to sell/cross one currency for the other, and then hold the new one for one year…

I’ve never been a HUGE fan of this program… But, there are years that this program kicks tail, and others when it gets sand kicked in its face! So… I just want you all to know that I’m not advocating this program… Just, making you aware of it…

So… Interest rate differentials, eh? Well, that would put the Aussie dollar (AUD), Brazilian real (BRL), South African rand (ZAR), Mexican peso (MXN), Norwegian krone (NOK), and a Johnny-come-lately New Zealand dollar (NZD), which, in my opinion, will see at least 3 rate hikes before summer…

Now, of all those currencies that currently have yield, if we played that old Sesame Street game “one of these things is not like the others”, we’d get the Mexican peso, which is issued by a government that’s about as corrupt as you can get (even more corrupt than South Africa? WOW!), a depleting oil supply, and a close tie to the US… I would be careful here…

Of course, saying that doesn’t take into consideration the 9.3% gain the currency has made versus the dollar in the last year… Add in the interest, and you’ve got a better than 10% annual gain in this currency, that I just said to be careful with…

OK… Now, onto other things… Friday’s currency trading saw the dollar remain in the driver’s seat, and the Big Dog, euro (EUR), was not able to regain the ground to 1.44 – instead remaining below that figure all day. In yesterday’s thinned-out holiday trading, the euro did gain back ground to 1.44 and stayed there all day, and night, until this morning.

This morning, we had German Investor Confidence – as measured by the think tank, ZEW – decline more than economists had forecast for the data in January. German Investors are of the belief that the economic recovery is showing signs of losing momentum. This weak reading of Investor Confidence caused the euro to fall back below 1.44.

I saw this report this morning and said to myself… “Apparently, these guys can see the trees in the forest, as opposed to the people that the US Consumer Confidence survey contact! But… That’s just me.”

There are a couple of currencies that have gained versus the dollar overnight… The Japanese yen (JPY), for one, gained even in the face of the announcement that JAL (Japanese Airlines) was going to announce bankruptcy… And the UK pound sterling (GBP) rose as well…

Seems the pound sterling is getting some love from those exiting the euro because of the problems in Greece. It’s the “euro-lite” currency, which does not have a Greece in its closet… However, the UK’s problems have all been taken out of the closet (that we know of), and I still wouldn’t touch them with a ten-foot pole… But, that’s not stopping buyers of pound sterling, as it rises to 1.6380 this morning.

Last Friday – I know, it seems so long ago, now – the data cupboard yielded some interesting data… The stupid CPI report came in at +2.7% annual inflation. I have to hand it to the Bureau of Labor Statistics – the people who cook the labor data books and also produce the data on CPI… They had to work long and hard to come up with 2.7% annual increase in inflation.

I wonder how these things came into play?

In the last 2 years…

Food and beverage prices increased 5.6%
Cereal and bakery prices increased 11.5%
Sugar and sweets prices increased 11.8%
Cooking oils prices increased 11.6%
The cost of medical care increased 6.7%
Medical care services increased 7.1%
Hospital services increased 14%
The cost of education increased 10.7%
Educational books and supplies increased 14.9%

Here’s the thing that I’ve told you for years now… Inflation should be an individual thing… How does it affect you? Maybe you didn’t use any of these things I just listed, but instead, found that movie tickets had increased by X amount, and you’re an avid movie buff… Inflation hit you hard!

The CPI data has been chopped, diced, and shredded into what the government wants… Low inflation, to make us all “feel good”, and keep them (the government) from paying out huge money to people receiving payments from the government that are tied to CPI! I just did a HUGE piece on this in my “other” newsletter, The Currency Capitalist… So, I’m loaded for bear, with this one… Don’t get me started!

We also saw the data cupboard yield, Industrial Production, +0.6%, and Capacity Utilization 72%, for December… Both, good signs for the US economy, I must say… The U. of Michigan Consumer Confidence number was less than expected at 72.8 versus the 74 that was expected. The markets paid more attention to this number than the Industrial Production and Capacity Utilization reports, which I found to be typical of these dolts.

Today, we’ll see the TIC Flows (net security purchases by foreigners) for November… It’s expected to increase over October’s awful figure of $20.7 billion… But, it would need to increase quite a bit to even cover just the trade deficit, which posted last week at $36.4 billion!

You know, I’ve made a BIG deal out of this data in the past, but realized that the markets just weren’t paying attention to it any longer, becoming comfortably numb… With the data that is supposed to give us the pulse on whether the US is financing its deficit or not… One of these days, Alice… To the Moon! That’s what will happen when the deficit is not being financed… Someone that holds the IOUs is going to knock on the door, and want to see the books.

The CBO has already said the deficit this year will be $2 trillion, and that’s before health care’s $1.5 trillion price tag… So… If health care goes through, (heaven help us) that’s a total of $3.5 trillion in new financing that the US will have to deal with… Who on earth, I ask politely, is going to step up and do another $3.5 trillion in loans to the US? Just keep thinking about that one, folks…

OK… I had better steer away from that furthering that discussion right now.

The Bank of Canada (BOC) meets today… I don’t expect any rate move here this month, and in fact, it might be déjà vu all over again when the BOC issues a statement that’s identical to the one it issued last month… “Persistent strength in the Canadian dollar could act as a significant further drag on growth and put additional downward pressure on inflation.” Hey! At least they dropped that stupid statement about interest rates not being raised until the next Blue Moon or something like that!

Above, I talked about my thoughts regarding interest rate hikes in New Zealand this year… Well, we’ll see the color of the first piece of data that would lend itself to increasing the chances of interest rate hikes sooner than later, this morning when fourth quarter CPI prints… A higher print of inflation would increase the chances that the Reserve Bank of New Zealand (RBNZ) moves on rates ahead of expectations… (As you can tell, I’m of the opinion that the RBNZ will have to move ahead of expectations. We’ll just have to wait-n-see, eh?)

Then there was this… My long-time friend, John Mauldin was writing about the deficits and the Fed removing quantitative easing, in his Friday letter last week, then he came to currencies against the dollar… Let’s listen in…

“So, where are the strong currencies going forward? The Canadian dollar is on its way to parity. I would want to own the Aussie, if I was a trader. Maybe the Swiss franc, although it is so high on a parity-value basis right now.

“But the currency I want the most if I am a central banker is that barbaric yellow relic, gold. Just as India has recently bought 200 tons of gold, I think central banks in other emerging nations will want to buy more, too. They all have relatively little gold as a percentage of their reserves. Look for that to change.”

To recap… The dollar held onto its gains on Friday, was sold briefly yesterday in thinned out markets, and then bought again overnight. German Business Confidence weakened, pushing the euro well below 1.44, where it traded all day yesterday. New Zealand prints fourth quarter CPI this afternoon, and will go a long way toward moving rates higher should it be stronger than expected. And the Bank of Canada meets today, with no rate movement expected, and a repeat of last month’s statement.

About Chuck Butler 105 Articles

Affiliation: EverBank

Chuck Butler is President of EverBank® World Markets and the author of the popular Daily Pfennig newsletter.

With a career in investment services and currencies extending over 35 years, Mr. Butler oversees all aspects of customer service and the trading desk for EverBank World Markets. A respected analyst of the currency market, Mr. Butler has frequently made appearances or been quoted by the national media. These include the Wall Street Journal, US News, World Report, MarketWatch, USAToday, CNNfn, Bloomberg TV, CNBC, and the Chicago Tribune.

Mr. Butler was previously the Chief International Bond Trader and Director of Risk Management for Mark Twain Bank, and has held significant positions in the investment industry since 1973.

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