Of interest since helicopter Ben’s announcement last week that he would keep the printing presses running both night and day is that the dollar has actually increased slightly. This follows a roughly 5% decline in the dollar trade-weighted index over the previous two months as speculation intensified that more Fed QE was coming and that the ECB was preparing an asset purchase program of its own.
Many commentators are of the view that infinitesimal quantitative easing from the Fed will continue to weigh on the dollar in coming months. For a start, the sense of crisis in Europe which cast such a long dark cloud over the single currency in the first half of the year has lifted somewhat, resulting quite recently in a capitulation by those traders and investors who were structurally short the euro. It could very well be the case that there is more of this type of short-covering activity to come – for example traders are still significantly short the single currency, although not as extreme as they were mid-year.
Those who contend that the dollar is headed still lower are also invariably transfixed by the fiscal cliff and the potential damage it could wreak on the economy unless Congress can dilute its impact by some minor miracle. Like Moody’s, dollar bears are very worried by the monumental liability stream which will confront the American government in coming years. In addition, with the Fed committing to essentially zero rates until 2015, the dollar’s attraction as a funding currency has increased still further.
However, dollar bears needs to tread warily as there are some warning signs against becoming overly negative. From a technical standpoint, the dollar is oversold and could already be in the process of reversing some of the recent losses. Politically, it appears that President Obama will be re-elected following some major gaffes by Mitt Romney recently – continuity in the White House probably increases the chances of the fiscal cliff being watered down. Also, America’s banks retain a healthier capitalisation than most of their European counterparts and the dollar is quite competitive.
In the near term, it might be wise for traders not to get sucked into a vortex of dollar negativity. It has been a good time for dollar shorts over the past two months, but in the near future the USD’s direction is likely to be much murkier and harder to trade.