The dollar has seen better days.
In the past 124 trading days, only 46 has been in the green for the dollar index.
Many factors have catalyzed this risk off-trend, and unfortunately, I believe even the key fundamental strength for the dollar has slowly diminished away during this pandemic.
Inflation in the United States diminishes two things. A) The buying power of the U.S. dollar and B) Real bond yields. Both factors disincentivize investors to hold U.S. dollars. Furthermore, with the Federal reserve implementing a new tool specifically to combat low inflation, it all but guarantees that inflation will rise in the near future, diminishing the U.S. Dollar's power.
The Federal Reserve balance sheet stayed relatively unchanged from 2015 to 2020, dipping below 4.5 trillion near the end of 2020. However, due to the increase of asset purchases to stabilize the financial system, their balance sheet swelled up to 7 trillion at the start of August. The buying back of bonds increases the supply of U.S. dollars in the money market, decreasing the value.
Many overseas investors, including myself, are pleased to hear dollar weakness as it entails, I will get more U.S. dollars when I convert my New Zealand dollars to fund my brokerage account. However, if I wanted to sell positions and covert it back into New Zealand dollars, chances are the U.S. dollar's weakness will erase a majority of the gains made. However, with low-interest rates, institutional investors have found it cheaper to short the U.S. dollar to hedge their equity positions from further downwards pressure.
We saw the U.S. dollar rally against other major currency pairs during the peak of the lockdowns in March as major investors sold off their risk-on assets to hold U.S. dollars. However, as the market reaches all-time highs, the U.S. dollar, with its almost guaranteed diminishing yield, has lost interest from investors in favor of Gold.
This is the main problem for the U.S. dollar. One of the only fundamental strengths that the U.S. dollar has had this year was when there was a rush to hold the greenback in the risk-off period we had in the middle of March/April. However, two things have changed since then:
• Market sentiment has favored Gold in Risk-off days
• "Risk-off "periods like March / April is likely not to occur again
Coronavirus cases continue to pile up in India, United States, Australia, and Europe – however, investors have continued to plow money into the equity markets. To put this into perspective, cases in the United States have only worsened since the peak of the recessionary period in March / April. However, the NASDAQ is up nearly 30% year to date. If the market is a voting machine, it has voted that the new normal is the Coronavirus running rampant everywhere, including the United States. Therefore, anything better than that should boost equity markets. And can things can worse in the United States with regards to the Coronavirus?
The dollar is experiencing significant headwinds, both qualitatively and quantitatively. Investors do not want to hold it, future headwinds like inflation are destined to push it lower, and its only strength is slowly diminishing.
Jack McIntyre from Brandywine Global Investment Management stated that "The dollar has been overvalued for a long time, and this might finally be a catalyst for a multi-year downtrend." Furthermore, he said that "As we've seen before when valuations have been stretched, policy or economic shocks can quickly change the currency's trajectory, and that's what it seems to be happening thanks to the Fed's swelling in the balance sheet, a surge in debt, and the way we handled the pandemic."
Liz Young, from BNY Mellon Investment Management, stated that what we're currently seeing in the U.S. dollar ".. is a pullback.." and that "it is a little too extreme to think the dollar is going to lose its reserve status anytime soon."
Bloomberg also stated that investors and traders are currently net short on the currency, with an increase in demand for puts options on the Bloomberg Dollar Spot Index, cementing a sentiment for a bearish trajectory possibly to a level not seen since 2018.
Anish Lal did an excellent technical overview of the trend of de-dollarisation and its effect on other currencies. You can watch it here.
The New Zealand dollar has fallen against the US Dollar as New Zealand records new community transmitted cases since the last time 102 days ago.
After a rally in risk-on currencies, the New Zealand dollar has fallen over 0.75% over the past two days from its high from 0.6175 as the largest city in the country, Auckland, was put into a mandatory level 3 lockdown for three days. For reference, New Zealand uses a 4 level system, with four being the most severe of lockdowns imposing a mandatory stay at home order for all citizens, with only essential workers such as nurses and doctors allowed to work.
Level 3 is less severe; however, it still imposes mandatory work from home orders if it is possible to do so. Schools and restaurants are closed. However, takeaways are allowed. Furthermore, only gatherings of 10 are permitted, with police roadblocks around the Auckland area to catch people going in/out of the city.
Prime Minister Jacinda Ardern urges citizens not to panic and panic buy at the supermarkets. However, queues have been seen stretching out the door at many supermarket chains, with police being required to be present to control the crowd of shoppers.
In terms of the New Zealand dollar and New Zealand equities, this sell-off may be purely reactionary. New Zealand is doing far better than essentially every other country, including its bigger brother Australia. This may be a good time for bulls to enter the market. As we’ve seen with many other securities as of late, the market is quick to pounce on a beaten asset for the rebound.
Meanwhile, in the United States, we see the market edge higher, with the NASDAQ and Dow Jones climbing back to their all-time highs on useful US inflation data. However, the outperformer was the SP500 with cyclical assets such as energy stocks help push the index past its all-time highs.
The S&P 500 broke the 3,386 level, finishing the US trading session just under 3390, an all-time high.
This is a familiar picture with investors and traders who have been following the markets for the past couple of months – the market rallies on good news regardless of the relevancy, with the market discounting the bad news citing Fed liquidity propping up assets. Regardless, the rally in equities has been astounding, proving the wrong unbelievers of the “V-shape” recovery.
Barry Jones, manager at the James Investment research, stated that the rally in the equity markets has been “absolutely amazing” and that the market has “done the V-shape recovery that the economy has not” with the “stock market [plowing] right ahead.”
Futures pulled back slightly at the end of the US session, most likely gearing up for the retail sales figure this Friday. A better than expected result will most likely see the NASDAQ push up above its record high of 11,286 and solidifying the S&P 500’s push above its all-time high.
The Australian Dollar has seen a resurgence in recent days, following its massive drop mid March. At its lowest, the Aussie had traded at 0.5749 against the USD, but has steadily been climbing back up, and is now at 0.6482 and continuing to climb. Moving ahead, AUD/USD has a strong support at 0.6439, which gives further credence for it to keep rising.
Likewise, the New Zealand Dollar has also made a comeback, although not to the same level. The NZD/USD pair is currently trading at 0.6039, lower than its neighbour. This is most likely due to the difference in the severity of the lockdown between the two countries. For the past month, New Zealand has been in Level 4 of its COVID-19 alert phase, which meant that the entire country was under lockdown. Of course, this has meant that the economy has been under severe strain. While New Zealand has now moved back to Level 3 as of today, with over 400,000 workers returning to their jobs. That's almost 10% of the population, which will undoubtedly give a boost to the Kiwi Dollar, but many businesses still remain closed.
On the contrary, while Australia has also been in lockdown, it has varied by state, and overall has been less restrictive than New Zealand’s. For example, while in New Zealand people have not been allowed to leave their homes unless they were essential workers or for exercise, Australians can still order food, and shop for some non-essential items. This has allowed the Australian economy to not suffer the same level of stress, and thus is most likely the reason why the Aussie has made larger gains over the past few weeks.
While it is still uncertain how long Australia’s lockdown will last, the effectiveness of its lockdown has given investors hope in the strength of the Aussie Dollar. While the coronavirus may have impacted the Australian and New Zealand Dollars in the short term, the fact that they have been able to effectively stop the virus from spreading any further gives hope for investors that their economies will be able to recover sooner and faster than other countries.
With the Level 4 lockdown now over in New Zealand, our team of analysts are now back in the office and ready to resume our usual content. This means we will no longer be livestreaming on YouTube, but we will be uploading our daily Trade in 60 seconds videos again. For our first day back in the office, we talked about the Aussie dollar, which you can see below here: