Beware the dollar

Written by Bruce J. Clark

April 5, 2019

In 2019 the major central banks have been focused on reflating markets by either pausing or reversing plans for policy normalization (higher rates) that hit many markets hard in 2018. Despite ongoing fears of slowing global growth, equities and commodities have so far responded positively to the prospect of easier rates and more plentiful liquidity.  

But the one thing that could ruin the party is the strength of the dollar. In my opinion the rising USD was an underappreciated factor that squeezed many regions hard last year, especially emerging economies with current account deficits. Many of these entities had borrowed heavily cheap dollars at low rates under the Fed’s QE program after the 2008 recession, leaving their fiscal position vulnerable as the dollar rose. Not only does it make debt repayment and refinancing more expensive, it also tends to pressure commodity prices that these countries often rely on for exports, creating an unenviable situation where the things they are short (dollar debt) go up and the things they are long (raw materials) go down. And as 2018 proved, because global markets are more interconnected than ever, it wasn’t long before problems in the emerging markets became a problem for the developed markets.

Normally, you would expect that the dovish shift at the Fed this year would undermine the dollar. I certainly did. As it became more apparent that the highs were in for interest rates in early Q4 last year, I assumed the same for the dollar. It was a perfectly logical conclusion given that major currencies often track the path of underlying interest rates. Wrong. Except for a few shallow dips, the dollar has been remarkably resilient. It even shrugged off the appointments of inflation doves Steve Moore and Herman Caine. In the currency world it remains the best of a bad lot and the safety and liquidity it offers in uncertain times can’t be matched. Being short hasn’t cost much money so far but the longer it remains here at the top of its range, the probability grows that the next move is higher.

The chart of the dollar index (DXY) is potentially very bullish, and a break above 97.75 would signal the beginning of a (perhaps significant) leg up. This would unleash a deflationary impulse, and much like in 2018 leave stocks and commodities vulnerable. The world needs a weaker dollar to keep the 2019 bull reflation trade going. But it may not get it.

Author: Bruce J. Clark

Bruce Clark is a thirty-five year veteran of the financial markets, both as a trader and as a journalist. After a career as a principal and proprietary trading manager for some of the world's largest banks, he began writing about markets for Thomson Reuters in 2012 as a senior financial market analyst, working out of the New York and Washington, DC bureaus. He is presently a Washington, DC-based editor for MT Newswires and a special contributor to ConnectedtoIndia and The Capital.

3 thoughts on “Beware the dollar”

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

This site uses Akismet to reduce spam. Learn how your comment data is processed.