Goldman Leads Dollar Groundswell After Calling Drop

The only Wall Street bank to accurately predict the dollar’s decline in 2013 is betting on the largest rally for the U.S. currency in 15 years.

Goldman Sachs Group Inc.’s chief currency strategist, Robin Brooks, predicted going into today the greenback would appreciate 5 percent to $1.25 per euro within six months, putting his estimate among the highest in a Bloomberg survey of more than 60 analysts. He also said the dollar would gaining 6 percent on a trade-weighted basis during the next 12 months against the Group of 10 currencies. All that was before the dollar’s 1.6 percent jump today on the European Central Bank’s unexpected interest-rate cuts.

America’s currency is enjoying a groundswell of support as the Federal Reserve stops buying bonds and expanding the supply of money as it moves toward its first interest-rate increase since 2006. That’s boosting the appeal of dollar-denominated assets with yields on Treasuries rising relative to the rest of the developed world. The Bloomberg Dollar Spot Index this week climbed to the highest since January.

“The foreign-exchange market has been more skittish than the bond market in terms of pricing in a recovery,” Brooks said in a phone interview from New York on Aug. 29. “While we certainly believe the Fed is not going to jump the gun on hikes, it’s also not ideologically dovish that many people have come to fear after all these years of unconventional measures.”

Euro Forecasts

Goldman, which gets the largest share of revenue from trading among U.S. banks, is even more bullish during the longer term, forecasting the dollar will strengthen to $1.20 per euro in a year and to parity by late 2017. The median forecast of analysts surveyed by Bloomberg is $1.28 by the second quarter of 2015 and $1.26 in 2017, from $1.2946 at 1:04 p.m. in New York.

After Goldman cut its dollar outlook in September 2013, predicting it would weaken to $1.38 per euro by the end of that year and reach $1.40 in 2014, the currency ended 2013 at $1.3743 and depreciated to $1.3993 on May 8. Melbourne-based Australia & New Zealand Banking Group Ltd. was the only other correct forecaster, according to data compiled by Bloomberg.

The European Central Bank had dominated the direction of the euro, which staged a 15 percent rally after President Mario Draghi said in July 2012 he’d do “whatever it takes” to save the currency amid the region’s sovereign-debt crisis.

It has taken less than four months for investors to wipe out more than one-third of that gain since May 8 amid improving growth in the U.S., the slowest inflation in almost five years, a return to recession in Italy, zero to negative growth in France and Germany, and a conflict between Russia and Ukraine.

ECB Outlook

The dollar gained today versus the euro as the ECB reduced all three of its main interest rates by 10 basis points. The benchmark rate is now 0.05 percent and the deposit rate is now minus 0.2 percent. A reduction in the benchmark rate was predicted by just six of 57 economists in a Bloomberg News survey.

Draghi also announced plans to “purchase a broad portfolio of simple and transparent securities” and euro-denominated covered bonds. The purchases “will have a sizable impact on our balance sheet,” he said.

The Fed has kept its benchmark rate at a record-low zero to 0.25 percent since December 2008, while futures traders saw about a 54 percent chance the central bank will start raising rates by July 2015, data compiled by Bloomberg show.

The Bloomberg Dollar Spot Index has risen 3.6 percent this quarter and climbed to 1,039.54 today, the highest level since July 15, 2013, before trading at 1,039.29.

Current times are reminiscent of when the euro kicked off in Jan. 1, 1999, with the ECB taking over monetary policies. The inflation rate was 0.8 percent, below the 2 percent target, and the region was in an economic slowdown, threatened by ethnic conflicts in former Yugoslavia. Policy makers decided to cut interest rates to 2.5 percent from 3 percent later that year.

Resulting Surge

In the U.S., economic growth and consumer prices were rising and Internet stocks soared, leading the Fed to boost its benchmark rate to as much as 6.5 percent.

The result was a 42 percent surge in the dollar against the euro from January 1999 to October 2000, when the bursting of the dot-com bubble led U.S. policy makers to reduce rates in 2001.

“The last time we saw a meaningful dollar rally was 2001, 2002, and so people sort of think under any circumstance the dollar’s weak,” said Brooks, who succeeded Thomas Stolper as Goldman’s top currency strategist early this year. “But the price action is gradually changing that psychology.”

The euro, which dropped to as low as $1.3110 this month, rose back above $1.3153 yesterday, a level that is important based on trading patterns and which opens up the possibility of a short-term rebound, according to Bank of America Corp.

Relative Rates

“The break above $1.3153 exposes $1.3220, if that breaks, that’s the first indication that this euro downtrend we’ve been in is starting to show signs of reversing,” MacNeil Curry, Bank of America Merrill Lynch’s head of technical strategy in New York, said in a phone interview Sept. 3. “We see a dollar pullback as being corrective. Once it’s run its course, we think the larger euro downtrend will resume, targeting $1.26, $1.27.”

The dollar will probably repeat its rally against its major peers 15 years ago, said Jens Nordvig, a managing director of currency research at Nomura Holdings Inc. in New York.

“What we’re looking at now is really like the 1999, 2000 cycle, it’s the level of rates compared with the other majors,” Nordvig said in an interview on Sept. 2. “When we think about the current cycle here, we know U.S. rates are rising, but it’s also the relative level of rates.”

Treasury 10-year notes yield 1.48 percentage points more than similar maturity debt issued by Germany, the largest economy among the 18 euro nations. Last year, the spread was as narrow as 0.25 percent.

“The dollar has done a lot of catching up with rate differentials and we expect it to do more,” Goldman’s Brooks said. “The currency market is waking up, and the dollar can really outperform.”

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