Tuesday, April 12, 2011

Dollar Continues to Move Lower

As Random Glenings has been discussing for the past couple of weeks, the carry trade continues play a significant role in global markets. Currencies in high yield markets are rocketing higher. Commodities also are moving sharply higher as well. Meanwhile, the US dollar and Japanese yen are sinking.

There were several articles in the press over the past few days that Fed officials are reluctant to raise short-term rates any time soon. And, for obvious reasons, the Bank of Japan is also in an accomodative mode.

Meanwhile, the rest of the world is tightening. Last week, for example, the European Central Bank (ECB) raised short term rates to 1.25%. China also raised short-term interest rates for the fourth time this year. Brazil's short-term rates are now double-digits.

So, with US and Japanese interest rates set to remain low for months, and the rest of the world moving interest rates higher, the markets have taken notice.

The dollar has been weakening against every major currency other than the yen. Speculators and investors are borrowing funds in Japan and investing everywhere, but particularly in higher yielding currency markets. The Australian dollar has just hit it highest level since 1983.

I don't know how this all ends, but it seems to me that something has to give.

Here's a excerpt from Reuters yesterday:

Still, this yen carry trade is likely just in the beginning stages. Our BOJ sources have said they are worried about a suddenly weak yen at a time when Japan is needing to import even more energy and stuff for reconstruction. Let’s see. At the end of the day, the BOJ is underwriting another carry trade. So is the Fed. The ECB’s rate hike – whatever you think about hiking rates while the third euro zone member in the past year is getting a sovereign debt bailout – has underscored how the Fed is going to lag, and that means the dollar remains a carry funding currency.


I think for the near-term the carry trade remains positive for equity markets. Longer term, however, the jury is still out.