Dollar Weakness Overstates Fed as IMF Sees G-3 Growth
The dollar’s biggest quarterly decline in eight years may be setting the stage for a rally, if some of Wall Street’s top strategists are to be believed.
The Dollar Index slid 8.5 percent last quarter, the most since June 2002, and 1.6 percent this month as Federal Reserve Chairman Ben S. Bernanke signaled he may inject more money into the economy to ensure the recovery stays on track. That new supply is reflected in exchange rates, based on how the currency reacted to the last round of so-called quantitative easing, say HSBC Holdings Plc, BNP Paribas SA and Nordea Bank AB.
“The market will find it has been selling the rumor and will rush to buy the fact,” when the Fed begins fresh purchases, said Hans-Guenter Redeker, global head of currency research in London at BNP Paribas. “Everybody sits in the same boat and is heavily negative the dollar. When too many people are sitting in a boat it’s no longer safe.”
U.S. growth will exceed that of the 16-nation euro region by almost 1 percentage point this year and next, the International Monetary Fund in Washington forecast last week. Bank of Tokyo-Mitsubishi UFJ Ltd. says Fed purchases may be as low as $500 billion, less than 30 percent of the $1.725 trillion bought last year.
No ‘Shock and Awe’
“The economic data hasn’t deteriorated to such an extent that they need to implement such an aggressive shock and awe approach,” said Lee Hardman, a currency strategist in London at Bank of Tokyo, who predicts the Fed will buy about $600 billion of bonds. “Positioning and sentiment are certainly suggesting that dollar pessimism is quite extreme.”
Commodity Futures Trading Commission data show hedge funds and other large speculators are more bearish on the dollar than at any time in history, with bets on a decline exceeding those on a rise by 341,683 contracts as of Oct. 5.
The last two times sentiment was close to this level, in early 2008 and late 2009, the dollar rallied. The Dollar Index, which tracks the greenback against the euro, yen, pound, Canadian dollar, Swiss franc and Swedish krona, surged as much as 24 percent in the second half of 2008 and 19.6 percent between November 2009 and June 2010.
“The pain trade now is any dollar-positive, or very likely U.S. bond-market-negative, news,” Citigroup Inc. strategists led by Steven Englander in New York wrote in an Oct. 7 report. The strategists said they are still calling for dollar weakness.
Strategists had already capitulated on calls for a stronger dollar. At the start of the year, the median estimate of more than 40 estimates was for the greenback to end 2010 at $1.45. By July, the forecast was $1.18, before ending last week at $1.32 as the euro gained, Bloomberg data show.
Speculation the Fed will buy bonds rose on Oct. 8, as traders drove two- and five-year Treasury yields to record lows and the dollar to its weakest level in 15 years against the yen, after a Labor Department report showed the U.S. lost more jobs last month than forecast.
Since climbing to this year’s high of 88.708 on June 7, IntercontinentalExchange Inc.’s Dollar Index has tumbled 12.4 percent to 77.456 as of 12:51 p.m. in New York. It fell 14.6 percent from March 17, 2009, the day before the Fed said it would buy $300 billion of Treasuries and step up mortgage-bond purchases, through Nov. 25 last year.
The greenback traded at $1.4029 to the euro last week, its weakest level since late January, before closing at $1.3939 in New York. Against the yen, it finished the week at 81.93, down from this year’s high of 94.99 in May, and today reached a 15- year low of 81.39.
“Quantitative easing seems to be priced in already,” said David Bloom, global head of currency strategy at HSBC in London, who has predicted since the start of June the euro would end the year at $1.35, from about $1.22 at the time. “Three months ago investors were bailing out of the euro, and now they’re all scrambling to buy it back.”
Bernanke has said Fed purchases support growth by lowering borrowing costs as investors use the money they get by selling Treasuries to buy securities including mortgage bonds and corporate notes. Policy makers will probably announce an initial program to buy about $100 billion of Treasuries a month, according to Jens Nordvig, a managing director of currency research at Nomura Holdings Inc. in New York.
“The U.S. is putting a lot more pressure on monetary policy than the other major central banks, and that’s hurting the dollar,” said Thomas Stolper, a London-based economist for Goldman Sachs, who expects the Fed’s bond purchase program to total at least $1 trillion.
The dollar risks further depreciation as long as investors are unsure about the plans, said Dale Thomas, head of currencies in London at Insight Investment Management Ltd., which oversees about $144 billion.
“The Fed doesn’t know how much it will end up buying and the market doesn’t know, and that’s making people nervous,” said Thomas. “Until the announcement of what we’ll get, the dollar will be under pressure.”
Interest rates favor the euro for international investors looking for an alternative to record low yields in the U.S. Two- year German notes yielded about 0.45 percentage point more than Treasuries last week, the most this year.
Federal Reserve Bank of St. Louis President James Bullard said in an interview with CNBC on Oct. 8 that the chance of a renewed recession has receded and there may not be a strong enough case for additional stimulus. The next Fed meeting on Nov. 2-3 will be a “tough call,” he said.
While the Labor Department said Oct. 8 that the economy lost 95,000 jobs in September, consumer spending in the U.S. rose more than forecast in August as incomes climbed, data from the Commerce Department in Washington showed on Oct. 1.
The IMF said Oct. 6 that the U.S. economy will expand 2.6 percent this year and 2.3 percent in 2011, compared with 1.7 percent and 1.5 percent for the euro region, and 2.8 percent and 1.5 percent in Japan.
“The next round of Fed easing is already priced into the dollar,” said Niels Christensen, Copenhagen-based chief currency strategist at Nordea, the top euro-dollar forecaster in the six quarters through June. “The dollar will start to rebound as the U.S. economy improves, while the ECB remains reluctant to pull the trigger on further easing.”
The euro’s strength may start to wane as austerity measures from Greece to Spain weigh on growth. European Central Bank President Jean-Claude Trichet urged governments last week to cut their budget deficits and signaled he won’t slow the exit from emergency stimulus measures. Exports from Germany fell for a second month in August as a rising euro curbed demand, data from the Federal Statistics Office in Wiesbaden showed on Oct. 8.
No ‘Big Bang’
“The euro appears to be too strong today,” Luxembourg Prime Minister Jean-Claude Juncker said in a speech in Washington on Oct. 8 as finance ministers convened for annual meetings with the IMF.
Global finance chiefs tasked the Washington-based institution with calming the recent outbreak of tensions over currencies amid signs they are triggering a protectionist backlash. Japan sold the yen last month for the first time since 2004 to curb its gains. Currency intervention has returned to the fore as countries from China to Brazil try to restrain their exchange rates to protect exports.
Investors who are counting on a “big bang” announcement from the Fed at its next policy meeting may be disappointed, according to Nomura’s Nordvig. When the central bank announced its first program it was trying to calm markets and stem a six- month, 34 percent plunge in the Standard & Poor’s 500 Index, he said. The S&P 500’s 4.5 percent gain this year means there’s less scope for dollar selling.
“It’s not going to be this big-bang announcement like last year,” Nordvig said. “Now it’s really the same as a fully priced rate cut.”
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