Reply #1: dollar watch [View All]

[UpInArms]

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Why has the Dollar Strengthened as the Stock Market Falls?

http://www.dailyfx.com/story/bio1/Why_has_the_Dollar_Strengthen_1185568953128.html

Why has the Dollar Strengthened as the Stock Market Falls?

Reports of more subprime related losses have sent the markets tumbling once again. The stock market is down another 100 points, putting this week’s losses in the Dow close to 500 points. Carry trades and other high yielding currencies have followed suit as more victims of the subprime fallout surface. Domestically, Sowood Capital Management, a hedge fund founded by a former Harvard Management executive suffered bond losses in excess of 10%. A Citigroup analyst also released estimates of the potential losses at Fannie Mae and Freddie Mac, whose bond holdings are estimated to have dropped by $4.7 billion. Internationally, Australian hedge fund Absolute Capital group suspended withdrawals from two of its funds as a direct result of subprime contagion. The problems have now gone global which means that the age of easy money is over. Investors and lenders in general will be far more careful about who and what they are willing to fund. Even if the markets do rebound, sentiment has shifted so dramatically that we probably won’t see 14,000 in the Dow or fresh highs in carry trades again this year. The most common question that we are being asked right now is why is the dollar rallying? The answer is because now that the global liquidation has deepened, investors are steered back into the US dollar because of its safe haven status. Many US investors have exposure abroad and when they cut their risky trades, they are also repatriating their funds back into US dollars. Only a recovery in risk appetite will save the markets at this point. Although the Dow could bounce given the strength of its recent moves and the fact that prices are nearing key levels of previous support, keep an eye on bond yields because if they continue to remain weak or sell-off, more losses in carry trades and equities is possible. Meanwhile, today’s data gives traders no reason to be optimistic. Even though GDP rose by a more than expected 3.4 percent in the second quarter, the drop in prices as well as slower personal consumption growth still give reason for concern. Looking ahead, next week is busier than ever. Not only do we have non-farm payrolls on Friday, but service and manufacturing sector ISM is due for release along with personal income and personal spending. Even if we get stronger outcomes, the market may still look for the Federal Reserve to cut interest rates at the end of the year.

Carry Trade Unwinding Continues, More Losses in Store

High yielding carry trades continued to perform horribly today with AUD/JPY and NZD/JPY falling another 300 points. The Chicago Board of Trade’s Volatility Index continued to rise and is less than a point shy of its 52 week high. Carry trades only perform well in low volatility environments. The fact that volatility shot up so much so rapidly makes carry trades or basically the desire for yield far less attractive for the risk. Even though USD/JPY and CAD/JPY are stronger, they have hardly put a dent into Thursday’s losses. Japanese data released overnight was mixed with consumer prices falling, but retail spending increasing on an annualized basis. The Nikkei was also down 418 points or 2.3 percent overnight. This seems to matter little for yen traders because they are solely focused on the market’s aversion for risk. If stocks continue to collapse, carry trades will continue to fall. Meanwhile in the week ahead, there is a lot of data on the Japanese calendar including industrial production, the trade balance, household spending, labor cash earnings, and the jobless rate. The market has gone from pricing in a 64 percent chance of an August rate hike to a 45 percent chance.

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Dollar Rebounds As Risk Liquidated Across the Board

http://www.dailyfx.com/story/topheadline/Dollar_Rebounds_As_Risk_Liquidated_1185776533619.html

It didn’t matter that Existing Homes Sales in US plunged another –3.8% or Durable Good came up short of expectations at 1.4% or that New Homes fared even worse than the existing stock of housing. The theme last week for speculators the world over was liquefy, liquefy, liquefy. As equity markets plunged and commodities corrected, capital came flocking back into the greenback. As we explained on Friday, “The greenback rally appears to be driven by technical factors as many speculative trades from equities to commodities to the carry trade are unwound and those assets are parked in dollars for the time being.”

The fears over the sub-prime problem have finally been realized after last week commentary by County Wide Finance chief executive Angelo Mozilo. He noted that he doesn't expect the U.S. housing market to rebound this year or next. With massive resets of Adjustable Rate mortgages still facing the market and a very pronounced tightening of credit conditions over the past several months, the housing recession is likely to persist and weigh on the overall economy. Therefore while the dollar may continue to benefit from the technical unwind its rally may be short lived if the economy falters further. Fed fund rates have already plunged handicapping a rate cut by December to 5% from the current 5.25%. Should US rates be lower, the dollar could resume its decline as capital will resume its search for higher returns.

The question of whether the Fed will cut or not will depends largely on the state of the growth in the economy. That’s why next weeks data is likely to be scrutinized even more closely than usual as traders look for any clues of a significant slowdown. After two consecutive months of negative spreads between consumer income and spending the market is looking for an improvement. However, should the number print negative again it could put further pressure on the buck, indicating further deterioration of consumer balance sheets. Nevertheless, the true test of the strength of the US economy will come later in the week as all eyes will focus on ISM and NFP data. If that news prints in line showing slow but steady expansion it may pacify the markets for the time being-BS



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