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  • "The market can remain irrational longer than you can remain solvent" - John Maynard Keynes

    Wednesday, September 15, 2004



    Members of the Fed are already starting to talk about the value of the dollar and how it needs to fall as a result of the US trade imbalance. Many others have explained this much better than I can (Like Buffett here in In the end there has not been 50% more wealth created and this will have to lead to massive inflation over time. If there is 50% more money then it stands to reason that each dollar is worth 50% less. This should have translated into a 50% drop in the price of the dollar, all else being equal, but again all else is not equal. The Asian markets rely on the US to buy their goods and are lending us money to do so. Bond yields usually go up with massive inflation but they’re not this time because all of that 50% more money has to go somewhere and it has, into the bond market driving up prices and yields down.

    There are effectively short, medium and long term currency trends at play here. In the short term there are traders and moves are pretty much random. In the medium term there are interest rate differences that support the carry trade, (borrowing 1M in the US at 1.5% and investing in Australia at 5%) and investment demand. In the long term, the terms of trade dictate the direction. Who know what the short term holds! In the medium term the dollar is becoming less attractive as the short currency in the carry trade, but there is still a wide spread between the US and Australian/ New Zealand rates. This spread isn’t really likely to close too much as the Fed will only tighten as the economy is improving and has stated many times that they will do so at a measured pace. I see the medium term factors as weakly bearish for the dollar. As for the long term factors the US is running a huge deficit and this has to correct with a large decrease in the dollar and while reported inflation is very low, 50% more money should mean that over time the dollar will correct in real terms and that is very bearish.

    How do you play this trade?

    The dollar is at a relative high point against a number of foreign currencies right now, which provides a good (if not perfect) entry point. I have investments in Silver, Gold, Foreign Banks, I am short the 30 year treasury and long a energy company with a wordwide investment porfolio.

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    Disclaimer and Disclosure Analyses are prepared from sources and data believed to be reliable, but no representation is made as to their accuracy or completeness. I am not paid by covered companies. Strategies or ideas are presented for informational purposes and should not be used as a basis for any financial decisions.
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