Over the last several quarters, as USD strength has continued unabated, many investors felt like they missed the boat to go long the Greenback. Want to go long dollar? Well, with the Chinese equity market crash, you have another chance to sell euros and buy dollars.
The strength in the US Dollar has come primarily from two areas. The first is commodity price weakness. Since most commodities, including crude oil, have historically been traded in dollars, when these commodities weaken, the inverse price relationship creates upward pressure on the USD. Obviously, a 60% decrease in oil pushed the dollar up big time. This pressure has coincided with the threat of a short term interest rate increase from the Federal Reserve Bank of the United States. The Fed really wants to get short terms rates back somewhere near “normal,” whatever that is. Historically, short term rates have been around five percent. No one expects the Fed to get back to a five handle; however, one or two percent is extremely likely over time. Higher rates creates more demand for dollars as investors want the yield they get by placing cash in USD.
What Chinese Black Monday did for the markets was to most likely delay this eventual rise in US rates. Therefore, USD/EUR sold off and the euro hit 1.18 to the dollar. This is a short term phenomenon. The market seems to have realized this and today the level is back down around 1.14. This is still an entry point for the dollar in my opinion.
The European economy is stabilizing somewhat but there are still massive structural and fiscal problems that cannot be solved overnight. European politics are much more rigid than the in the United States. The labor market and productivity issues that the Germans are attempting to force on Greece and the rest of the European periphery will take a long time to germinate and produce fiscal and economic fruit. France, Italy, Spain, Portugal, and others are all heavily in debt with no end in sight.
However, in America, the election is coming quickly. Billionaire businessman Donald Trump is ahead in the polls. Whether he is elected president or not is not the point. What is the point you ask? The point is Americans are looking for economic change. They want the sovereign debt issues of the US dealt with. They want government interference reduced in the private markets. I believe you will see the US economy take off over the next few years, leaving Europe in the dust. US interest rates will rise. This will put more upward pressure on the dollar.
I wouldn’t necessarily sell the commodity currencies to buy dollars at this point as I believe they have been beaten up too much. CAD/AUD/NZD, have all been destroyed. They are due for a dead cat bounce. However, EUR/USD at these levels is an opportunity that won’t last very long, in my humble opinion.
L. Todd Wood is a former emerging market debt trader with 18 years of Wall Street and international experience. He is also an author of historical fiction thriller novels. His first of several books, Currency, deals with the consequences of overwhelming sovereign debt. He is a contributor to Fox Business, Washington Times, Newsmax TV, and others. LToddWood.com