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Memo from the Dollar: Die Hard With a Vengeance

By Jon Nadler       Printer Friendly Version
Aug 8 2008 2:26PM

Good Afternoon,

On the triple eight convergence date that is regarded as auspicious enough for the Olympics to have been set to begin at 8:08 on 08.08.08 most commodities suffered a setback that can only be described as a sea-change and the start of a new paradigm. Beijing's 30,000 fireworks paled in comparison to the millions that were likely lost in today's Great Unwind. The only ones apparently left "going for (the) gold" are now the athletes competing in China.

On a day when Fannie Mae bled two and a half billion dollars, when Russian tanks rolled into Georgia, when a BP pipeline was burning in Turkey, and when Pakistan looked like it could be heading for a civil-military crisis, gold, oil, precious and base metals took a beating the likes of which many cannot remember. Oversold conditions could give opportunities for a quick pop to bargain hunters, but many first want to see if the May lows will hold the market above the waterline this time around. Judging by the behavior of the rest of the commodities complex, and the convictions being exhibited the dollar's buyers, that could be a tall order. The Dow a 300-point leap on the crest of the dollar wave more like tsunami, now at 74.80 on the index), while also celebrating the near $4 drop in crude oil and a 2.2% rise in US worker productivity. Airlines, telecoms, and retailers led the pack of gainers and the Fannie Mae numbers were drowned out by rising economic hopes fueled by cheaper oil.

Spot gold was last seen at $857.50, down $15 on the session - after recording an intra-day low of $850.60 and headed for a 6.5 to 7 percent loss on the week (about the same as crude oil's). Silver however, lost near 6% just today. Platinum fared somewhat better losing only $23 to $1536 as it had already suffered major setbacks ahead of the other metals. Palladium fell $15 to $329.00 The lowest price for the metal in 2007 was $320 per ounce. It had traded above $600 around the Bear incident.

Commodities capped a week of losses which will remain best forgotten by funds. Gold's slide for the sixth day in a row harks back to the great $200 June 2006 cave-in. This was also the day when the dollar took advantage of Mr. Trichet blinking on inflation and trounced the euro in a move the size of which had not been seen in eight years' time. No, this was not a surprise rally in the dollar as far as we are concerned. It had been in the making for quite a few weeks now. On July 14, we wrote and quoted:" Lehman Bros. London chief currency guru Jim McCormick sees "A solid case for a dollar uptrend. Should commodity prices ease, the market focus is likely to rapidly shift away from inflation concerns and towards growth, and on this metric, the dollar is beginning to look far better [than the euro]."

On the same day, we reported that another expert, Bill Gross, the oft-quoted manager of the biggest bond fund on the planet, has now turned bearish on the euro for the first time since the unified currency made its debut back in 1999. The euro is seen as falling to between 1.30 to 1.45 by year's end, based on Euro-zone economic weakening. Investors in raw materials futures ended the second quarter with some of their best gains in 35 years, thanks to a 40 percent jump in crude oil prices and new highs set in just about every commodity from gold to copper, corn and soybeans. But with crude prices, some metals and agricultural futures softening this [last] week, the correction could deepen if investors continue to see less upside potential in these markets in the second half, analysts said." If forced to pick, we would take our chances on the short side," Edward Meir, a New York-based analyst at MF Global, the world's largest retail broker of commodities, said in a commentary on crude oil Wednesday. This week's data from the Commodity and Futures Trading Commission showed investors reducing their long, or bullish, positions in oil or other commodities or even taking short, or bearish, positions."

Where is the surprise, exactly? If anything, it is in the order of magnitude of today's move. The dollar achieved $1.503 against the euro. And it is only August. Business Week (via AP) brings us today's in-depth perspective on the dollar's massive move and the possible start of a new era in investing:

"The dollar soared Friday as concerns about the deteriorating euro zone economy gripped investors, who concluded European central banks are done with interest-rate increases. The dollar also gained from the sell-off in commodities. In late morning trading in New York, the euro came off its lows to $1.5033 from $1.5328 late Thursday. Earlier in the day, it sank as low as $1.5004. It is the highest point for the dollar since late February, and a rapid recovery from July 15, when the euro hit a record against the dollar at $1.6038.

"There's a real capitulation under way," said David Gilmore, partner at Foreign Exchange Analytics in Essex, Conn. "In 24 hours it's gone from $1.55 to $1.50, which is highly unusual. That changes your game plan for the marketplace."

On Thursday, the European Central Bank and Bank of England left their key interest rates unchanged at 4.25 percent and 5 percent, respectively. ECB President Jean-Claude Trichet issued a warning on inflation and said economic growth figures for the second and third quarters of 2008 would be much weaker than in the early part of the year. He signaled that an interest-rate increase to counter inflation would probably not be forthcoming. Higher interest rates can buck up a currency, as investors transfer assets where they can get better yields, while lower interest rates can weaken a currency.

The pound, meanwhile, recovered slightly to $1.9170 after earlier selling as low as $1.9145, its lowest point since November 2006. On Thursday, the pound sold for $1.9436. But the dollar leaped to 110.14 Japanese yen from 109.45 yen, its highest level since January.

"This is payback time for the European currencies against the dollar," said Ashraf Laidi, currency strategist at CMC Markets. "These currencies have to retreat to better reflect the sharp deterioration in economic fundamentals in (the euro zone) region. This is not to say there's been an improvement in U.S. fundamentals."

Earlier in the week, the Federal Reserve maintained the benchmark federal funds rate at 2 percent.

Comments by ECB President Jean-Claude Trichet after Thursday's decision "confirmed that the window of opportunity for further rate hikes has been slammed shut by the cold blast of negative data releases that swept through the euro zone in the last few weeks," said Marco Annunziata, an economist at UniCredit in London. Recent economic indicators from major euro zone economies such as Germany, France and Italy have painted a gloomy picture. The ECB last month moved to cool inflation by raising borrowing costs for the first time in a year, by a quarter percentage point to 4.25 percent, while the Bank of England has left rates unchanged since April, when it reduced its benchmark figure by a quarter of a percentage point to 5 percent.

Crude oil futures, meanwhile, dropped below $116 a barrel, and oil-producing countries' currencies sold off.

"Lots of investors have been [placing bets] on high commodity prices and a low dollar, and those bets are getting destroyed," Gilmore said.

Today's parting words from gold market analyst Ned Schmidt. He tenders an explanation for the dollar's rally that may not make the conventional headlines, but it is one you might want to take note of. "As is readily evident, the US$ has staged an incredible rally. That rally is one of the strongest to occur without some underlying causal event. In short, nothing readily apparent is happening around the world to cause such a move. Now, consider the weekly purchases of U.S. debt by official institutions, essentially central banks around the world. These numbers are reported weekly by the Federal Reserve, the depository for these bond holdings. In the week ending Wednesday, official institutions made the largest net purchase of U.S. debt ever recorded. They bought the annualized equivalent of $1.457 trillion. Those purchases created a shortage of dollars which created a massive short covering rally in the dollar. That buying pushed the dollar up almost 3% in the past week, or at a 320% annual rate."

Core 10% gold positions for long-term insurance will remain desirable for most investors. The world, after all, remains unpredictable. However, the one-way street many thought we were still one, is turning out to be a very busy highway. Two-way traffic is now clearly visible. Thank the funds. Up to now, anyway.

Expect solid buying in India this weekend and somewhat of a bounce after this string of potholes. Just don't expect a return to the past.

Happy Trading. Pleasant Weekend.

Jon Nadler
Senior Analyst
Kitco Bullion Dealers Montreal



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