Last week I concentrated on the fact that Mr. Obama had far more to worry about than BP – namely poor fiscal policy and the impending debacle in housing. Last week’s shocking stats were a brutal reminder of what’s in store, and no one should be soothed by those who point to the small year on year rise in the median house prices. Both new home sales prices and the 4-week average of mortgage applications dropped sharply. It was also alluded to that Mr. Obama would continue to believe that fiscal stimulus was the answer, and this week he has politely castigated his European counterparts for doing the opposite. He forgets one key difference – the fact that the dollar remains the reserve currency of the world, which allows a buffer against the plague of worries that have hit Europe.
I have long been bullish on the pound, especially once the election was out of the way. It is clear to me that those countries which have both political will and mandate from the population to do what is necessary to cut deficits will benefit. The question now is whether the markets will finally shift their focus further to those that propose no intention to. This last week, during which I have been away on business, I took a step back from the day-to-day hurly burly, and it is clear now that in this last week’s price action – for the first time in many months – equity weakness has not equaled dollar strength. I find FX the hardest asset class to trade, as I am a directional trader and every FX trade is a spread. It is about working out where the relative movement will come. However, what is clear is that the risk is that focus will turn on America’s huge deficits and begin to exact a toll on the dollar. Carry trades can quickly unravel and any further equity weakness and a lack of positive dollar reaction to it, or equity strength, which should see the risk currencies over perform. These highlight how a shift in the dollar’s dynamic over the coming months could just be beginning.
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