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DOLLAR BEAR MARKET NOT DOLLAR CRISIS

GEORGE TCHETVERTAKOV<br />HEAD OF MARKET RESEARCH, ALPARI UK<br /><br />ONE of the biggest casualties of the financial crisis was trust in banks and financial institutions, sparking a collapse of confidence in the markets and precipitate falls across all asset classes from equities to commodities.<br /><br />The greenback was in extremely high demand throughout 2008 as panicking investors looked to the most secure and trustworthy currencies, which were perceived to be the US dollar and the Japanese yen. Capital invested overseas was repatriated back to the US alongside foreign safe-haven inflows.<br /><br />But as risk appetite returned to pre-crisis levels and investors started to come out of their shells, sidelined dollars have gradually been re-deployed into equities, commodities, emerging markets and other higher yielding investments, which has put severe downward pressure on the dollar. <br /><br />Downward momentum has increased not only in the short-term, but also possibly in the long-term because reserve managers have begun to diversify their portfolios away from US dollars into euros, yen, sterling and Swiss franc, threatening the dollar&rsquo;s long-standing hegemonic status as the world&rsquo;s leading reserve currency.<br /><br />Equally negative for the buck has been the Fed&rsquo;s ultra-loose policy framework, including low rates and asset purchases. While this has arguably been supportive for the US economy, the added liquidity has forced yields lower and discouraged capital inflows into the US as investors seek higher-yielding assets elsewhere, resulting in a negative bias for the greenback.<br /><br />The rate of decline in the dollar has been very aggressive &ndash; double-digit declines in almost every dollar-pair over the past six months. <br /><br />However, panicked presumptions of a dollar crisis seem premature because a true dollar crisis is only likely to occur alongside simultaneous falls in equities, bonds and property. But so far, this has not been the case. US equity markets &ndash; along with the rest of the world &ndash; have been trending higher since March, there is still resilient demand for US debt and we have also seen a gradual stabilisation in American property prices. <br /><br /><strong>STORE OF VALUE</strong><br />In such a scenario it would also be reasonable to expect huge demand for precious metals because as investors lose confidence in the dollar, they are almost certainly going to consider precious metals as a prime store of value and potentially even a medium of exchange as there is no alternative at the moment.<br /><br />Although gold prices have spiked to record highs of $1,070 alongside strong demand for equities, bonds and commodities, this rather highlights a concern over inflation rather than the fundamental value of the dollar. Over the past quarter, the dollar has re-established its longstanding negative relationship with the yellow metal following six months of very little correlation. <br /><br />The likelihood of a mass exodus out of dollar-denominated assets is incredibly unlikely despite fiscal, monetary and credit problems festering in the US. In some aspects, reliance on the greenback has become dependence for those with high exposure to US assets. <br /><br />With this in mind, any desire to reduce dollar exposure will have to be indulged gradually.