Currency Review & Outlook

By Hans Black
Interinvest Review & Outlook

       European currencies shot up in mid-September as the Fed cut interest rates more than consensus (including us) had anticipated. Either a great contraction has begun and the Fed is extremely worried or this is another one in a series of false alarms we have witnessed over the past years. We must, however, rely on our research, which has guided us so well over the past decades, and continues to call for a substantially higher dollar in the months and quarters ahead. At this time of writing, the euro is trading just above 1.40, about two percent higher than early summer levels. In addition, the Swiss franc, trading at 1.18, has gone beyond the 1.20 bottom level we had seen earlier this year. For the moment, we are still anticipating that the bottom is being made for the dollar in the weeks ahead and that the path of least resistance will ultimately lead to a substantially higher greenback. It is worthwhile remembering that the world is highly leveraged and short of dollars, and at some point they need to be bought back.
       The most extraordinary thing about the yen is how this really happened. Trading currently near 116, it has weakened somewhat over the past month, reflecting dollar strength and reflecting perhaps a replacement of some of the so-called carry trades which had to be unwound so dramatically in August. In the longer term, we believe the yen will continue to weaken, although it is entirely possible there will be further dramatic reductions in the carry trades, thus giving the yen a boost from time to time between now and year end.
       We do not fully understand the upward bounce in the Canadian dollar. Canadian consumers can now cross the US border and buy goods with not only substantially less sales taxes - usually 4 or 5 percent instead of 15 - but also much lower prices for such basic items as gasoline, groceries, pharmaceuticals, over-the-counter drugs, etc. A recent report by the Bank of Montreal indicated that the difference in the so-called consumer basket price between the two countries is roughly 24 percent. We therefore have great difficulty in accepting the much heralded par price. Ultimately, such a mis-pricing in goods and services across a large border cannot be maintained, irrespective of how strong one or two commodities such as oil and nickel may be to the fortunes of the Canadian economy in the short term. While we have been clearly off base on this, we continue to feel the dollar lies closer to 1.20 - 1.25 rather than at parity. Time will tell.
       Both the Australian and New Zealand dollars have shot back from the drubbing they received in August. The kiwi dollar in particular has rebounded approximately two-thirds of its early decline, thanks in good part to the re-establishment of high-yielding carry trades such as were seen earlier this year.
       Editor's Note: Dr. Hans Black is editor of Interinvest Review & Outlook, P.O. Box 51462, Boston, MA 02205 1 year, 12 issues, $125. Interinvest is a global money management firm. Visit the website at www.interinvest.com.