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Keep Buying the U.S. Dollar, Say Strategists -- and Beware Commodities

Today we're pulling apart the daisy chain leading commodities lower, thanks to David Woo, head of global rates and currencies at Bank of America Merrill Lynch.

First, consider the performance of several key commodities so far this year:

These declines reflect a cascade of events which Mr. Woo explained this morning on Surveillance:

  • Economic weakness in Europe has driven German Bunds below 1 percent...
  • Causing investors to buy higher-yielding U.S. Treasuries instead.
  • Their buying has created demand for dollars...
  • Which has pushed the dollar up...
  • And commodities down...
  • Since commodities are quoted in dollars and must fall to maintain equilibrium

A chart of the Thomson Reuters/Jefferies CoreCommodity CRB Index illustrates recent declines.

As for how low commodities can fall, Mr. Woo suggests looking at how far the dollar can rise.

Mr .Woo joins Richard Cochinos of Citigroup Global Markets Inc. (whom we cited yesterday), Jens Nordvig of Nomura Securities International Inc. and Chris Verrone of Strategas Research Partners as the fourth strategist in two days to address the dollar's recent appreciation to an 11-month high. They are telling clients to continue buying the dollar, arguing that the relative disparity between U.S. and European economies will widen.

As our third chart illustrates, further dollar gains could prove negative for commodities.

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