Thursday, January 21, 2010

Trouble in the Euro Zone Boosts Dollar, Lowers Commodities

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

The Euro hit a 5-month low against the dollar on January 21st.  It has been selling down since the beginning of December. Troubles with peripheral euro zone debt in Greece, Portugal, Spain and Ireland are damaging the currency and boosting the U.S. dollar. The rising dollar has in turn lowered commodity prices (all commodities are priced in U.S. dollars) and commodity-based currencies such as the Australian and Canadian dollars. A combination of ballooning budget deficits and economic contraction are cited as the cause of these recent moves.

The euro has fallen as low as 1.4045 to the U.S. dollar and has breached its 200-day simple moving average - a technical negative. On the flip side the dollar rose as high as 78.81 and briefly went above its 200-day moving average for the first time since May 2009, but promptly bounced down. No major trend reversals are indicated as of yet for either the U.S. dollar or the euro. It is normal during either an uptrend or downtrend to occasionally come back to the 200-day moving average. To reverse the trend, requires rising above it or falling below it and remaining there so that the 200-day moving average itself reverses direction.

While the commodity-based currencies have sold off, they have barely broken their 50-day moving averages, which are trading well above their 200-days as is typical in strong uptrends. GLD, the major gold ETF, has also traded below its 50-day moving average, but is still far above its 200-day moving average, indicating its strong uptrend is also still in place. JJC, the copper ETF, is in even better shape and hasn't even fallen to its 50-day moving average.  The oil ETF, USO has also violated its 50-day, but is still above its 200-day. January is a seasonally weak month for oil and some selling in the commodity at this point is not out of the ordinary.

The epicenter for the problems in the euro zone is Greece. CDS (credit default swap) insurance against Greek government debt default or restructuring hit an all-time high of 340 basis points. News reports have indicated that Greece's debt to GDP ratio of 120% is behind the move. If this were the whole story, the Japanese yen would have collapsed long ago. The debt to GDP ratio in Japan is at the 200% level. The yen has barely budged, while the euro has sold off. Weakness in the euro zone economy has also been cited, with the PMI manufacturing index for January coming in at 53.6 (above 50 indicates expansion). The same day, the U.S. reported weekly unemployment claims were up 36,000 from the previous week - not exactly an indication of economic strength. To claim that the euro zone economy is in worse shape than the economy in the United States is indeed a stretch. The key difference between Greece, Japan and the U.S. is that Japan and the U.S. can print all the money they want to, whereas Greece because it is part of a currency union cannot.

In the short-term anything is possible in the markets. Manipulation - and central banks are prone to intervene with currency trading - and illusion can sway trading. The long-term trend however is that fiat currencies are all losing their value and this was already evident by the 1970s. Excessive government debt and economic weakness is a global problem shared by almost all the industrialized economies and this will accelerate the multi-decade trend of weakening currencies. Higher prices of hard assets and consumer goods are the consequence of that trend.

Disclosure: Long gold.

NEXT: As U.S. Banks Deteriorate, Obama Proposes New Regulations

Daryl Montgomery
Organizer,New York Investing meetup

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

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