We have been asked by our investors why the US dollar is strong lately and why the peso softened. Just when almost everyone has given up on the US dollar, it recorded its strongest one-month rally since 2008 (up 5.6 percent in September alone). We believe that a variety of fundamental reasons are supportive of the US dollar over the short term:
EU debt crisis – The euro which makes up 60 percent of the US dollar index collapsed last month on the weight of the escalating EU sovereign debt crisis. Despite the German vote for a stronger EFSF bailout fund two weeks ago, the Euro plunged lower, closing at 133.91 last Friday. The troika of the European Commission, the ECB and the IMF has so far failed to alleviate concerns of an inevitable Greek default and its subsequent fallout to its periphery.
Risk-off trades – The US dollar is also benefiting from the flight to cash as global assets are sold en masse on “risk off” trades. According to EPFR Global, a leading supplier of fund flows and asset allocation data, at least $20 billion were pulled of every asset considered as a risky asset in September alone. Specifically, the high-yield bond funds and emerging market equities have seen huge pull outs of funds. Even commodity funds were not spared and have experienced negative flows, including gold funds and silver funds. The massive redemptions in the month of September caused huge declines in commodity prices not seen since 2008.
Safe haven currency – If the US dollar is strong, it is not because the US economy is strong itself, but because other traditional safe havens like the Swiss franc and the Japanese yen has been taken out of the game. Last month, the Swiss and Japanese authorities decided to take aggressive action to cap further currency gains in order to protect their domestic and export industries. The US dollar was left as the only safe haven currency option.
The Swiss franc, which throughout of the year was the recipient of funds flowing out of the euro, fell 12.7 percent against the US dollar last month after the Swiss National Bank decided to cap its currency at 1.20 Swiss francs per euro. The commodity currencies such as the Aussie dollar and the Canadian loonie fell 9.8 percent and 7.4 percent for the month, respectively, as commodity prices pulled back sharply in September.
Asian currencies declined 5.6 percent led by the Korean won and Singapore dollar which were down 10.4 percent and 8.5 percent, respectively, in September. Exporting economies such as South Korea and Singapore are seen to be among the worst hit as Europe and US fail to address their slowing economies.
Meanwhile, the Philippine peso which we touted as among the more stable currencies in the world (see PIGS vs. TIP, Aug. 22, 2011) finally succumbed to stronger US dollar pressure, but nonetheless remained relatively strong versus other currencies. The peso fell only 3.6 percent in September, which is way better than the 6.9-percent average decline of major currencies and the 5.6-percent average loss of Asian currencies vis-à-vis the US dollar.
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