Brian.oco 0 Posting Whiz

Taxes, inflation, oil prices – even the price of corn are dominating the economic headlines these days. But should they overshadow the story of the (briefly resurgent) U.S. dollar?

I don't think so - and I don't think anyone in the tech sector should sell the dollar story short, either. The dollar dictates the price and value of U.S.-made technology products and services. When the dollar's down, it makes U.S.-made computers, for example, less valuable. It takes more and more dollars to buy that computer

And that's been the case of late. In fact, the dollar has been in the tank for several years now and economists and Wall Street gurus alike are understandably worried.

How much has the greenback struggled in the past few years? Let’s put it this way. If someone offered US investors a bond that pays zero interest, has zero collateral, lost a big chunk of its value in the last three years and is flirting with all time lows, would investors be interested?

My guess? Not really.

Dollar-basher say that the U.S. dollar is in a major long-term bear market, and are advising investors to keep their exposure to the dollar at an absolute minimum. They’re also recommending that all long-term savings and investments should be denominated in select foreign currencies against which they believe the dollar is likely to fair the worst.

Critics also say that economic policy decisions by the U.S. Federal Reserve is greasing the skids for the stock market’s demise, primarily by flooding the world with dollars and credit. M3 – the economic term for the U.S. money supply – is growing at a 12% annual clip. Relentlessly pumping the dollar into the money supply has triggered a devaluation of the greenback – and has helped cause all of those problems with high gas prices and the rising cost of food.

Most of that money is in the stock market, buying up stocks with no earnings and companies with no prospects. That cash will disappear once stocks start dropping. While investors still have big debts to pay.

Meanwhile, a cash flood is also washing overseas. Foreigners are holding nearly nine trillion U.S. dollars. That is a vicious cycle. Less profits means lower stock prices. Just like Americans, foreign investors have watched their stock market wealth disappear. Overseas, as I said above, American investments are becoming less and less attractive, and foreigners may soon abandon the dollar altogether.

Other signs are equally ominous . . .

  • Dollar devaluation in the 1930’s coincided with the biggest bear market in history.
  • After the US went off the gold standard in the ‘70s, a 10-year bear market followed.
  • The Crash of ’87 was preceded by a 35% devaluation of the dollar against major currencies.
  • The current fall of the dollar has already coincided with the biggest US stock market crash since 1929

That’s all bad news for the dollar, which is the most widely held financial asset in the world.

But there is some good news. The dollar has stabilized since hitting an all-time low in mid-March. It’s rebounded nicely, albeit moderately since then. Historically, the dollar rises during periods of domestic economic strife. We’re not saying we’re in a recession, but it’s evident from the relevant data that the dollar has rallied during four of the last five U.S. recessions.

Thus, a burgeoning parade of economic forecasters say that the outlook for the buck is brightening. Dr. Steve Sjuggerud, writing in a recent issue of the popular Investment U. newsletter, predicts the U.S. dollar should rise by 20% or more in the coming months.
Sjuggerud, writing from an economic conference in Switzerland, where the dollar has “crashed” and Americans pay $500 for one night in a hotel and $60 for a lunch of fillet and salad, sees three key indicators that tell of better days ahead for the beleaguered U.S. currency.

  • Interest rates. All things being equal, the country with the higher yields will see its currency rise versus the country with the lower yield (deposits in the U.S. pay nearly 3%, while Swiss ones pay less than 1%).
  • Purchasing power. When one developed country's currency is significantly out of line with another developed country's currency, it's like a stretched rubber band - things return to "normal" over time. (A Big Mac in Switzerland, for example, is 82% more expensive than a Big Mac in the States, according to The Economist magazine).
  • The underlying trend. Trends in currencies tend to stay in motion for longer than people think. Recently, the trend in the European currencies has been down versus the dollar, but so far the fall has been minimal… and there's plenty more room on the downside in the euro and the Swiss franc.

Conversely, the euro, which has run rings around the dollar in the past few years, is showing signs of slowing down, says Sjuggerud. He reasons that interest rates are lower than the United States, at closer to 2%. He also points out that a Big Mac in Europe is 25% more expensive than the U.S., but there is no good reason for it. “The Big Mac will return back to "normal" pricing in euros,” he says. “And the way that will happen is the expensive euro will lose some of its value.”

Consequently, all the “ducks are in a row” for the U.S. dollar to continue its rebound.

Of course, that’s his opinion. What might be closer to reality is that while the dollar may continue to surge (somewhat) in the short-term, long-term indications are working against any monumental U.S. currency recovery. That’s more or less Warren Buffet’s opinion, He recently told that “The U.S. dollar will keep weakening” and that he feels ``no need to hedge'' against currency risk when buying large companies outside the U.S.

Buffet thinks the dollar will moderately surge against the euro this summer and into the fall. That’s primarily due to the fact that the Federal Reserve rate cuts are finished, and that a hike in the Fed Funds rate will boost the dollar over the next few months. As we wrote above, the slowing U.S. economy should also bolster the dollar, as well.

Working against the dollar’s rebound is the rising specter of inflation, which could well plant the seeds for another prolonged decline in the dollar in late 2008 and early 2009.

So that’s it. Short-term the dollar should rise. Long-term, more of the same I’ve been seeing for the past few years.

Call it a “tale of two currencies” – just don’t call it too promising.

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