It was an exciting return to the market for American traders coming back from the extended holiday. The influx of liquidity was met with (if it did not in fact spark) a crucial plunge from the US dollar. On a trade-weighted basis, the greenback suffered its steepest loss since the first day of August and subsequently closed at lows not seen since last September of last year. Alone, this would support the notion that the dollar has initiated the next leg of its medium-term bear trend; but there is still reason to be cautious and skeptical. From price action alone EURUSD, USDCHF, AUDUSD and NZDUSD have all forced dollar-related support. In contrast, whereas the pound, Canadian dollar and Japanese yen have gained ground against the world’s most liquid currency; they have not yet established the same progress.
The fundamentals behind this tentative shift offer more details and thereby give a better sense of its development. Pressure has built up against the greenback for months; so this move is not without its merit. Among the short-term factors that contributed to today’s move, the World Economic Forum (best known as the host for the annual meeting in Davos, Switzerland) released a report that supplanted the US as the most competitive economy in the world with Switzerland. Further readings put the country at 108th for trust in banks, 106th for access to financing and 93rd for economic stability (out of 133 participants). From the economic docket, the Federal Reserve reported the biggest drop in consumer credit on record. The $21.6 billion decline through June marks the sixth monthly decline and extends the worst trend since 1991. Both a reflection of credit restrictions and lack of demand, this report significantly diminishes the outlook for a recovery – as the consumer is the largest component of growth by a wide margin.
What is needed to maintain true dollar depreciation beyond its already-low levels though is the long-term fundamental outlook. This past weekend’s G20 meeting should not be written off for influence today. US market participants no doubt responded to the suggestion that policy officials are coming closer to an appropriate time to withdrawal monetary and fiscal stimulus. And, though there is a desire to make this shift a coordinated one, it is clear that there will be leaders and laggards – with the United States falling into the latter category. Other concerns include the slow efforts to replace the dollar as the world’s reserve currency and the fact that the country will have to float record-breaking deficits well after the recovery is underway as paying off the debt will be a timely process in itself. However, these are not particularly novel concerns. Indeed, these are realities that have long been factored in. What we need to know to determine the trend is whether the outlook for risk appetite is strong enough that investors have the luxury to focus on these vague concerns (remember most of the developed world is in the same situation as the US). If this is the case, we should expect investor sentiment to advance uniformly and unequivocally over the coming weeks.
