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US Dollar at Major Turning Point?

Currencies / US Dollar Feb 19, 2008 - 02:00 AM GMT

By: Money_and_Markets


Best Financial Markets Analysis ArticleJack Crooks writes: No matter how much money you've made betting against it, there comes a point when you've got to start feeling sorry for the U.S. dollar. In recent years it's become more hated than even the New York Yankees. And that's saying something!

You already know why the dollar has been suffering. Enormous trade deficits, a deteriorating real estate market, rising consumer debt, etc. All of these are contributing to the dollar's demise.

But, I don't believe the United States will soon become the next banana republic. In fact, as I watch closely, I often wonder if some surprisingly good things may be just over the horizon for the dollar.

Today, I want to examine this possibility more closely ...

In the Short-Term, Everything Depends on How Deeply the Rest of the World Suffers

By now, it's obvious to just about everyone that the recession-storm battering the U.S. markets is rapidly moving across the Atlantic Ocean.

To be sure, there's a tidal wave of economic weakness rolling ashore overseas.

It's clearly washing over the United Kingdom ...

  • U.K. house prices fell 0.8% in the fourth quarter;
  • The U.K. savings ratio dropped below zero for the first time in roughly 20 years; and
  • Household debt service makes up a whopping 14% of incomes in the U.K.

And Europe ...

  • Europe's services industry is expanding at its slowest pace in four years;
  • Economic growth in Europe grew by only 0.4% in the fourth quarter, down from 0.8% in the prior quarter;
  • European exports to the U.S. and Japan are contracting; and
  • Investor confidence in Germany's economy — the largest contributor to Europe's growth — is dismal, just above a 15-year low point.

And as you might expect, as these other countries experience the same economic woes as the U.S., they seek similar solutions.

So far, those solutions have meant monetary policy adjustments. And some global central banks are already following the example set by the U.S. Federal Reserve — cutting interest rates.

Conventional wisdom says changes to monetary policy have a lagged effect on an economy. And I'm pretty sure additional Fed interest rate cuts are in the pipeline.

So it's fairly reasonable to expect these accommodations to help the U.S. economy eventually.

And since the monetary policies of the Bank of England and the European Central Bank are at least a few steps behind the Federal Reserve, I would expect those economies to recover farther down the line, too.

Economic Growth Cycle

Picture the normal business cycle as a series of waves, and you'll get a sense of how it all works. Basically, the country that hits the trough first is also likely to hit its next crest first.

Sure America's economy hasn't escaped the threats of recession just yet. It's still battling a falling housing market, tightening credit conditions, and uncertainty on the unemployment front.

But as a currency trader, I have to ask myself ...

Is Most of the Bad News Already Priced into the Lowly Greenback?

Assuming the U.S. economy does emerge from recession ahead of other countries, the dollar will be in the best position to benefit.

And I'm starting to see signs of this belief in the currency market. Consider these two important turning points ...

Fundamental Turning Point #1: The most recent U.S. non-farm payrolls report showed that the U.S. economy lost 17,000 jobs in January. That's a horrible piece of information.

Yet the dollar finished dramatically higher on that day, and proceeded to move sharply higher over the following week.

Dollar Euro Currency Jobs Report

What this tells me is that U.S. economic weakness IS already being discounted in the market.

Fundamental Turning Point #2: Two words that will likely be critical in determining the dollar's ability to recover are "trade balance."

See, a big reason for recent negativity on the dollar stems from the U.S. trade deficit growing to "unimaginable levels." But there are signs the tide is turning.

A report on Thursday showed the trade deficit shrank more than expected in December. In fact, the deficit through all of last year showed overall improvement for the first time in six years!

Remember, falling trade and current account deficits mean the abundance of dollars sent overseas to lubricate global markets are now receding.

I think this will exacerbate the credit problems that are beginning to wreak havoc on business investment and consumer spending in other parts of the world.

Bottom Line: This Could Be a Major Turning Point in Sentiment ...

In a couple months we may view February 2008 as a pivotal time in the currency markets.

Reason: It's looking like traders are more interested in selling currencies against the dollar. Just take a look at my chart of the euro and you'll see what I mean.

Euro Futures Price Currency Exchange

My chart shows price at the top and trading volume at the bottom. I've circled notable price and volume bars where relatively high levels of volume correspond to considerable price declines or significant lows. All of this reveals an emerging bias toward selling euros.

All this tells me that traders may be ready for a major change. And I'll be monitoring this situation closely, so stay tuned!

Best wishes,


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