Greenback no longer one way bet for investors

The one-way bet in the US dollar that has lasted several months may be over for now despite distress over its malaise that has stretched from Washington to Paris.

The dollar recently hit a 15-month low against a basket of other major currencies.

This weakness has become a political football in the United States, as opponents of the Obama administration charge that it shows fiscal policy is hurting the US economy.

Other countries have also become increasingly vocal about the dollar’s decline.

Even Federal Reserve Chairman Ben Bernanke commented on the dollar, saying on Monday that the Fed does watch the dollar’s value.

But the greenback has shown resilience in recent days.

Activity in the options market, valuation measures and a slight divergence in the tight relationship between stocks and the dollar suggest a possible end to dollar weakness.

There is growing nervousness that the rally in risky assets is overdone, with experts questioning whether the rebound in the global economy can go on without government support.

“A lot of good news is already priced in. For the dollar to meaningfully break below these levels, we’ll probably have to see something that adds significantly to the already upbeat outlook for the global economy,” said Omer Esiner, senior market analyst at Travelex Global Business Payments in Washington.

Selling the dollar to buy stocks, commodities and higher-yielding currencies has been a popular trade of late as low US interest rates and an abundance of liquidity have lured investors into riskier assets in search of returns.

The dollar is down 15 per cent since March.

It also hit a 14-month trough versus the euro at 1.5064 in late October.

But the euro’s struggle to stay above the key $1.50 level may be a sign the market is overextended.

The single currency pierced $1.50 for the first time this year on October 21 and closed above it for three straight sessions.

It last hit that level on Monday, trading lately at $1.4852.

To keep bears on their toes, Bernanke — in rare comments on the value of the dollar — said on Monday that the US central bank is monitoring currency markets “closely” and is “attentive” to the implications of a falling dollar.

His comments, which were backed by European Central Bank chief Jean-Claude Trichet, helped boost the dollar this week.

But analysts caution that without a change on the policy front, the impact of verbal attempts to talk up the dollar are likely to be short-lived.

David Gilmore, a partner at FX Analytics in Essex, Connecticut, called the remarks “an introduction of two-way risk, even if in a fairly discreet fashion.”

He added that there is “nothing credible” behind Bernanke expressing concerns about the dollar as the Fed has pledged to keep interest rates low for an extended period.

To be sure, the dollar still has room to fall.

Despite its losses so far, the greenback remains 7.5 per cent above its record low against the euro at $1.6040 set in July, 2008.

Speculative positioning data also shows that dollar shorts are not at extreme levels, and more good economic news could hasten more bets against the greenback.

Equity rallies

Ashraf Laidi, chief market analyst at CMC Markets in London, said dollar weakness has increasingly become a catalyst for US equity rallies, which look unsustainable given mixed economic news and the recent struggle in oil prices.

“Aside from US dollar weakness, we have yet to see any fundamental dynamic that justifies US indices higher.”

If stocks begin to retreat, the dollar could stabilize, he said.

Some valuation measures also indicate the dollar is becoming undervalued.

Morgan Stanley said the euro/dollar is now 27 per cent too high compared with its median fair value.

Meanwhile the US dollar inched higher on Monday, extending a short-covering bounce as investors pared risk trades in a holiday-thinned week.

The general theme remained profit-taking and a shift to safe-havens, notably the short end of the US Treasury market where yields had dropped to near zero, and briefly went negative last week.

That flow to US assets was helping underpin the US dollar and should linger through to the new year.

“It worries me that two-year yields are trading as they are plus bill rates went negative and gold is bid, bid, bid,” said Robert Rennie, chief currency strategist at Westpac.

“Makes me think there is a huge flight to quality going on that hasn’t hit forex yet...perhaps a bit of a warning sign.”

The trend continued on Monday, albeit slowly with Tokyo on holiday.

The euro edged down to $1.4845, from Friday’s $1.4860.

Support was seen around Friday’s $1.4800 low and the 55-day moving average at $1.4784, while resistance came in at $1.4935.

The dollar was little changed at 88.88 yen, from 88.97 in New York, but remains in a gradual downtrend that stretches back four weeks now.

Trade was likely to be thin all week given US markets will be shut on Thursday for Thanksgiving, and the lack of liquidity could lead to volatile moves.

The US diary included existing home sales on Monday, revised GDP figures on Tuesday and the minutes of the Federal Reserve’s last policy meeting the day after.

Policy statement

Analysts at Barclays believe the minutes should show the Fed’s reference to resource utilization and inflation in its policy statement was intended to underline its commitment to keeping rates low.

“This language was not meant to signal that the extended period phrase would soon be removed,” they said in a note to clients. “We expect the FOMC’s updated economic projections to continue to show moderate economic growth and modest inflation.”

The greenback was also supported as banks parked funds in short-term, liquid safe-haven assets such as US government bonds ahead of book closings at the end of this month and next.

Rates on two-year Treasury notes have been falling steadily and briefly broke beneath the year’s low of 0.68 per cent on Friday.

Three-month bill rates dived last week to reach a wafer-thin 0.015 per cent, suggesting investors were seeking safety at any cost over year-end.

Treasury sells a huge $118 billion in two-, five- and seven-year notes this week and traders expect strong demand for the more liquid shorter-dated paper.