Has the Dollar Lost its Safe Haven Role or is this a Sentiment Lull?

Credit Market

Previous

Current

Change

% Change

Outlook *

DJ Credit Default Swaps

105.088

104.175

-0.912

-0.87%

Improving

10 Year Junk-Bond Spread

634.49

612.01

-22.48

-3.54%

Improving

Credit Card Delinquencies

4.77

4.64

-0.13

-0.13%

Improving

Mortgage Delinquencies

10.06

9.85

-0.21

-0.21%

Improving

US 3 Month Libor Rate

0.293

0.292

-0.00047

-0.16%

Deteriorating

Total Money Market Funds

2818.49

2838.56

20.07

0.71%

Deteriorating

Stock Market

Last Week

Current

Change

% Change

Outlook

Dow Jones Industrial Average

10387.01

10550.29

163.28

1.57%

Improving

Dow Jones Real Estate Index

205.96

208.71

2.75

1.34%

Improving

Dow Jones Financial Index

322.59

331.97

9.38

2.91%

Improving

Dow Jones Retail Index

85.1

86.27

1.17

1.37%

Improving

S&P Volatility

23.25

22.46

-0.79

-0.79%

Improving

Put-Call Ratio

2

1.58

-0.42

-0.42%

Improving

Market Breadth (Adv – Dec)

0.6385

0.7009

0.0623

6.23%

Improving

Economic Indicators

Previous

Current

Change

% Change

Outlook

GDP (Annualized)

2.8

1.6

1.6

1.60%

Improving

Mortgage Applications

-1.5

-8.9

-8.9

-8.90%

Deteriorating

Initial Jobless Claims

482

451

-31

-6.43%

Improving

Consumer Confidence (UMich)

74

67.8

-6.2

-8.38%

Deteriorating

ISM Manufacturing

55.5

56.3

0.8

1.44%

Deteriorating

ISM Services

54.3

51.5

-2.8

-5.16%

Deteriorating

ISM Services – Employment

50.9

48.2

-2.7

-5.30%

Deteriorating

Has the last bastion of fundamental support left the US dollar. The economic outlook is already deteriorating. Expectations for interest rate hikes have been pushed beyond the scope of the coming year. Fiscal troubles are starting to take hold over investors. The only thing the greenback really had going for it is its role as a safe haven currency. However, that function seemed as if it too had abandoned the dollar this past week when the single currency marked a major technical bearish break against many of its most liquid counterparts while the backdrop for risk appetite seemed otherwise stable. Yet, if we ignore the prominence of the technical levels that were overrun, this does not seem at all a critical deviation. The fact that the dollar had slipped over the first 48 hours of the week may actually suggest the correlation between currency and risk appetite is actually holding. Since the turn of the month, equities and other risk-sensitive asset classes have actually advanced substantially. In contrast, the dollar was comfortable in its well-worn range. Therefore, the sharp movement in the dollar would put the currency back on track with risk appetite. Projecting the greenback’s performance from here means we are still beholden to risk trends and other prominent fundamental factors. Unless risk appetite trends really gain traction and develop a definable trend, we should expect further deviations between risk and the currency.

Stimulus, regulation and intervention may be made with good intentions; but ultimately, this trio is manipulation. Back in 2009, such efforts would encourage a recovery in the financial markets because fear of a system-wide collapse had been quieted. In essence, confidence in market stability was fortified by capital appreciation. This time around, the stimulus efforts are cast in a harsher light. The leverage of easily accessible capital for consumers, businesses and investors has obvious benefits; but the intentions are increasingly seen as a sign that the global economy could be heading for a second slowdown and efforts to stabilize the system the first time around have failed. Add to this issues of FX intervention, protectionism and new OTC regulation; and the future looks even less certain.

The outlook for the US economy was lowered this past week; but was it really a surprise to investors? The most influential release through the past week was the Federal Reserve’s assessment of the economy collated in the Beige Book. According to this appraisal of economic and financial conditions across the various sectors of the US economy (produced for monetary policy makers to reference at their monetary policy meetings), the central bank’s economists said there were widespread signs of slowing economic activity. This is essentially what the speculative markets have been pricing in for some weeks now; but when officials admit to such a dour forecast, it seems to have greater weight in reality. In other news, trade and fiscal deficits improved; while retail sales and small business sentiment ticked higher.

The path that the dollar has forged is dramatically different than that seen in other US-based capital markets. If we were to defer to the most straight-forward gauge of risk appetite / risk aversion, we see that equities have advanced through the open of the month. Is this naturally a sign that speculative confidence has risen? Not necessarily. What has taken place concurrent to this advance in the benchmark indexes is a buying of US Treasuries by the Federal Reserve. In fact, by Wednesday, the central bank had purchased $3.5 billion in government debt and has significantly increased its total holdings. This general effort is aimed at maintaining the level of stimulus in the market to encourage lower rates for investment and economic activity. To further this speculation, we have seen the outlook take an even more expansionary turn this past week. With the economy on path towards what some fear is a double dip recession, we have seen rumors that the Fed is prepared to potentially increase its stimulus cap by $1 trillion. That would be a tremendous increase in speculative leverage; but whether it has the same impact on trader confidence is debatable. Another boost to speculative interest comes via the Basel III accord. A potentially significant hurdle to the turnover of global financial activity, the increase in capital reserve ratios the bank of banks has proposed a deadline of 2019 to be compliant.

The performance of Treasury yields and traditional asset classes (like equities and commodities) has diverged significantly this past week. This is a development that comes directly through the Federal Reserve’s outright purchases of US Treasuries. If we were to look at the unencumbered ebb and flow of risk appetite (as far as that is possible), we see that both CRB Commodity Index and Dow Jones Industrial Average climbed through this past week. Both would overtake notable resistance; but follow through has otherwise struggled to gain traction. Catalyzing the next solid bullish drive will require a distinct fundamental and/or speculative push.

Is the risk of financial shocks diminishing? We would be led to believe that if we were to simply refer to the strength of the traditional measures of uncertainty. For the VIX (equity) and CVIX (currency) volatility indexes, we have seen a notable downturn in risk-based premiums. Both credit default swap rates and junk bond spreads have also seen significant declines. However, these indicators are directly influenced by the prevalence of capital. The injection of capital by governments around the world has turned encouraged complacency. If we look to those indicators that are not easily manipulated by liquidity and stimulus (Libor spreads, lending levels, default rates, etc), it is clear that risk is still present and growing.