Dollar Bears Go Into Hibernation as QE2 Attacks Prove Unfounded
At a time when foreign officials and U.S. lawmakers are criticizing the Federal Reserve’s plan to buy Treasury bonds, the currency market is voting in favor of Ben S. Bernanke’s quantitative easing.
The Dollar Index measuring the currency’s performance against those of six major trading partners has climbed as much as 5.1 percent from its low this year on Nov. 4. Futures traders have slashed bets for a decline in the dollar against the euro, yen, Australian dollar and Swiss franc, data from the Commodities Futures Trading Association in Washington show.
Leaders from Chinese Premier Wen Jiabao to John Boehner, the nominee to be the next speaker of the House of Representatives, have said Fed Chairman Bernanke’s plan to print money and buy $600 billion of U.S. government debt will cause instability and faster inflation. The $4 trillion-a-day currency market is signaling the Fed’s strategy is unlikely to debase the dollar as long as the economy continues to strengthen.
“The dollar has found a bottom,” said Lane Newman, director of foreign exchange in New York at ING Groep NV, the largest Dutch financial-services company.
Strategist forecasts for the dollar to weaken have all but ceased. Since mid-October, the average of 38 estimates in a Bloomberg survey has been for the currency to trade at about $1.36 to the euro by mid-2011. It ended last week at $1.3673.
German Finance Minister Wolfgang Schaeuble said Nov. 5 the Fed’s policy was “clueless” and unlikely to revive growth. Brazilian Finance Minister Guido Mantega, who used the phrase “currency war” six days after the Fed suggested at its Sept. 21 meeting it was willing to ease monetary policy, said Nov. 4 the U.S. is throwing “money from a helicopter” and may cause asset bubbles to form.
Bernanke defended the decision in a speech last week in Frankfurt, saying it’s the best way to underpin the dollar and support the global recovery. Economists at London-based Barclays Capital said in a Nov. 19 report that U.S. growth will accelerate this quarter from 2.4 percent in the three months ended Sept. 30, while the 16-nation euro zone goes through “turmoil” amid talks to bail out Ireland.
Ireland became the second euro country to seek a rescue as the cost of saving its banks threatened a rerun of the Greek debt crisis that destabilized the currency. The package with the European Union and the International Monetary Fund may total as much as 95 billion euros ($130 billion), further boosting government debt, Moody’s Investors Service estimated today while saying it may lower Ireland’s credit rating.
Investor concern that Ireland may default drove up yields on its 10-year bonds last week to 6.46 percentage points more than those on German bunds of similar maturity, a record.
“It’s become almost fashionable to criticize the Fed,” though Europe’s fiscal crisis has “changed the picture quite a bit,” said Vassili Serebriakov, a currency strategist at Wells Fargo & Co. in New York.
Wells Fargo, the third-most accurate currency forecaster of 44 firms tracked by Bloomberg for the six quarters ending Sept. 30, estimates the dollar will end the year at $1.38 to Europe’s common currency, and gain to $1.34 in 2011. Last month, the firm was calling for an exchange rate of $1.43.
IntercontinentalExchange Inc.’s Dollar Index rose 0.1 percent to 78.571 at 9:28 a.m. in New York. That’s still below 82.918 level on Aug. 27, when Bernanke said the central bank “will do all that it can” to keep the recovery on track. That sparked speculation that the Fed would conduct a second round of so-called quantitative easing and keep interest rates at record lows through 2011.
“The dollar cannot mount a sustainable rally in the face of quantitative easing,” said Richard Franulovich, a senior currency strategist at Westpac Banking Corp. in New York. “The Fed is capping U.S. interest rates and by doing that, it’s making the dollar an unattractive currency compared to other countries with higher interest rates.”
A group including former Republican government officials and economists wrote an open letter to Bernanke, published Nov. 15, saying the asset purchases “risk currency debasement and inflation” and won’t curb a U.S. jobless rate that has held above 9 percent since May 2009.
The best way to underpin the dollar and the global recovery “is through policies that lead to a resumption of robust growth in a context of price stability in the United States,” Bernanke said in a speech in Frankfurt on Nov. 19. Countries that undervalue currencies may inhibit growth around the world and risk financial instability at home, he said.
Treasury Department data last week showed global investors bought a net $81 billion of U.S. stocks, bonds and other financial assets in September, above this year’s average of $71 billion, after Bernanke laid out the bond purchase plan the previous month to central bankers in Jackson Hole, Wyoming.
During the first round of quantitative easing, the Fed bought $1.725 trillion of government and mortgage bonds between November 2008 and March 2010. In the past three years the Dollar Index has ranged from a low of 70.698 in March 2008 to as much as 89.624 in March 2009. This year’s high was 88.708 in June.
Investors may prefer the dollar as the Fed’s effort to avoid deflation by injecting more cash into the financial system shows signs of succeeding. A general decline in consumer prices tends to hurt a currency because international investors have less incentive to buy assets in that nation.
Yields on 30-year Treasury bonds, which are most sensitive to changing expectations for faster inflation, rose last week to 4.42 percent, the highest since May.
“The long end of the market is telling you to give Mr. Bernanke and his colleagues the benefit of the doubt that this thing can be successful,” said Paul McCulley, a managing director at Newport Beach, California-based Pacific Investment Management Co., which runs the world’s biggest bond fund. McCulley made the comments last week in an interview on Bloomberg Radio’s “The Hays Advantage” with Kathleen Hays.
Futures traders have slashed bets the dollar will weaken against the euro. The number of contracts hedge funds and other large speculators hold at the Chicago Mercantile Exchange betting on a gain in Europe’s currency tumbled to 8,606 as of Nov. 16 from the high this year of 48,243 on Oct. 8, according to Commodity Futures Trading Commission data.
Traders “overshot” on the dollar’s weakness and “we’re now seeing a reversal of that,” said Jeffrey Young, head of North America foreign exchange research at Barclays in New York. “It makes sense that the dollar is going to have to rise” as bond yields in the U.S. increase, he said.
Since the Dollar Index’s low this year on Nov. 4, America’s legal tender has risen against 15 of its 16 most-widely traded counterparts tracked by Bloomberg. It gained the most against Sweden’s krona, rising 4.2 percent, followed by 3.6 percent versus Norway’s krone and 3.1 percent compared with the franc.
UBS AG, the second-largest currency trader behind Deutsche Bank AG, raised its one-month forecast last week for the dollar on signs of recovery in the U.S. economy and Europe’s lingering fiscal crisis.
The Zurich-based firm sees the greenback strengthening to $1.30 per euro in a month, compared with its previous estimate of $1.40, according to a research note dated Nov. 15. The U.S. currency may climb to 85 yen in one month, from a previous target of 80 yen, it said. The dollar traded at 83.44 yen today in London from 83.55 yen in New York on Nov. 19.
“Europe’s fiscal troubles are set to continue and the U.S. economy is starting to revive after summer weakness,” analysts led by Mansoor Mohi-uddin, the Singapore-based chief currency strategist at UBS, wrote in the note. “We expect investors to look more favorably on the dollar now.”
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