Dollar Signs: US & Canada

11/25/2005 12:00 am EST

Focus:

Mary Anne & Pamela Aden

Co-Editors, The Aden Forecast

Pamela and Mary Anne Aden have a remarkable knack for discussing complex topics in a clear and understandable manner. Here, they provide an overview of the global currency markets and explain their bullishness on the US and Canadian dollars.

"The ongoing strength in the US dollar has been surprising considering the dollar’s negative financial outlook. But markets sometimes react to other factors that ignore key fundamentals and they don’t make sense at the time. But if it’s happening, you have to go with it and this is one of those times. The number one attraction in the currency markets right now is interest rates. Rising US rates and the expectation they’re going higher due to inflation concerns has been the main reason why the dollar’s been surging, especially now that long-term rates are following. US rates have risen sharply compared to rates in other countries and that’s been the big draw.

"For now, the markets don’t seem to mind that the US is the world’s largest debtor nation, that its debt and deficits keep soaring, that there’s doubts about the dollar’s world reserve status, that US prosperity is due to the willingness of foreigners to accept US dollars, which are being pumped out in massive quantities, or that the dollar remains overvalued with an unprecedented trade deficit that would normally coincide with a much weaker dollar. Yes, the dollar has its problems but the market is saying the dollar is better than the other alternatives.

"Our guess is that this dollar strength will not be long lasting and the dollar’s unlikely to go sharply higher. Remember, the dollar’s been on the decline for a long time. It’s lost 95% of its purchasing power since 1913 when the Federal Reserve was created and half of its purchasing power since 1987 when Greenspan took over the Fed. The dollar has dropped about 70% against the European currencies since the early 1970s and around 30% over the past four years. With the dollar’s fundamentals currently negative, we simply don’t see a huge rise coming up.

"But we also know that no market goes straight up or straight down. And after declining since 2001, the trend will now remain up with the dollar index above 86. If it rises and stays above 92, the dollar index would be very bullish and it could then possibly correct 50% of its bear market decline. If so, the index could rise to possibly as high as the 100 level. For now, the dollar’s leading indicators are basically neutral and they’re not yet confirming which way the dollar’s going next. Even though the medium-term indicator could still decline further, which would give the currencies an upward boost, increasingly it looks like it’s not going to happen due to the dollar’s renewed strength.

"The Canadian dollar has been in a league of its own. It’s been the currency leader, business is strong and interest rates rose this month. Plus, high oil and gold prices have been providing a boost. Gold and the Canadian dollar actually move together, which is not surprising since Canada is a major gold country. So as long as gold remains bullish, it’ll be positive for the Canadian dollar but we also want to be cautious. Since the Canadian dollar’s leading indicator is at a major high area, it’s possible the rise may not last much longer. But that’s been the case for the past two years and the Canadian dollar has kept rising, so that could continue too. If so, that’d be great for both gold and the currency.

"In sum, interest rates are the big attraction in the currency markets. Since US rates have risen sharply compared to rates in other countries, the US dollar has been surging. It remains technically bullish and it’s poised to rise further, especially if the dollar index rises and stays above 92. With the exception of the Canadian dollar, all of the currencies are now technically bearish and they’re headed lower. We recommend selling the Australian and New Zealand dollars, and any other currencies you may be holding, except for the Canadian dollar. For now, keep a large 50% cash position and divide it by keeping 40% in US dollars in 90 day T-Bills or a money market fund and 10% in the Canadian dollar since it’s the only currency that remains bullish."

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