Another “No Shit Sherlock” Moment…

This WSJ article comes AFTER a major dollar downdraft and after my most recent Euro vs. Dollar and FXE posts (about 5-points ago). In fact, this article coming now and receiving prominent placement by the WSJ may signal a short-term top/time to take profits and look for the next good entry point. Cheers!

Dollar’s Slide Could Roil Stocks

Importer Shares Might Take Hit; Inflation, Slower Foreign Demand May Put Dent in Bond Prices Too
May 1, 2006; Page C1

The dollar is suffering its most painful selloff in months, a trend that could reverberate throughout the stock and bond markets.

The U.S. currency fell 0.7% to an 11-month low against the euro on Friday at $1.2616 and to more than a two-decade low against the Canadian dollar. The U.S. dollar index has fallen six straight days and last week endured its biggest one-week decline in 16 weeks.

Analysts say the biggest beneficiaries of further dollar declines this year are likely to be the yen and other Asian currencies, some of which have been rallying since the fall. The Korean won, for instance, has soared 11% against the dollar over the past six months and is back to levels not seen since the 1997 currency crisis. The yen rose to 113.86 yen last week versus the dollar, a six-month high.

The dollar already was going through a rough patch when it was hit on two fronts last week. The Group of Seven leading industrial nations said emerging economies should let their currencies appreciate to help reduce the large trade surpluses these countries have with the U.S. and other developed nations. Analysts say the G-7 statement represents a step forward from Washington’s lone voice and ratchets up the pressure on Asian governments to allow their currencies to appreciate.

Federal Reserve Chairman Ben Bernanke, testifying before Congress on Thursday, offered the strongest indications yet that the central bank might be about to pause after a long period of interest-rate increases. For traders already inclined to sell the dollar, “this was like waving a red flag in front of a bull,” says Adnan Akant, a managing director at New York money manager Fischer Francis Trees & Watts.

A falling dollar could mean bad news for the bond market because it can lead to inflation and higher interest rates. While a weaker currency is beneficial for some stocks because it makes their products overseas more competitive, many companies also would face higher costs on goods from abroad. (See related article.1)

“There are going to be definite winners and losers in the stock market,” says Russ Koesterich, senior fund manager with Barclays Global Investors in San Francisco. Mr. Koesterich says big exporters stand to gain, while retailers that import much of their merchandise from Asia stand to lose.

The dollar began weakening in recent weeks amid signs that the Fed was edging closer to ending its long series of interest-rate increases. Higher U.S. rates relative to Europe and Japan had made U.S. debt securities more attractive and boosted the dollar in 2005. The expectation that this interest-rate gap is about to narrow has hurt the dollar and turned the market’s attention to the ballooning U.S. trade deficit.

An extended dollar decline isn’t guaranteed, of course, especially if the Fed raises rates beyond what the market expects. Yet in a sign that sentiment has turned sour on the dollar, even stronger-than-expected economic news last week, such as a rise in the April consumer-confidence numbers, did little to break the currency’s fall. Sentiment worsened on Friday after Treasury Secretary John Snow said currency values should be set by the market, which was viewed as a tacit call for central banks to let their currencies appreciate against the dollar.

The euro also was helped by news that central banks continue to adjust their foreign-reserves holdings away from dollars. In the Middle East, Qatar’s central bank became the latest to say it had been buying euros. Sweden also revealed that it was raising the proportion of euros in its currency basket, to 50% from 37%. These moves suggest a broadening acceptance of the euro as an alternative holding to the dollar.

Some economists worry that a weaker dollar, which often breeds inflation by raising the price of foreign goods, could push Treasury-bond yields higher. “It’s unambiguously negative for the bond market,” says Mark Zandi, chief economist for Moody’s, a consulting firm in West Chester, Pa. “It’s just a question of degree. Import prices are going to start to rise again, and that could ignite broader inflation.”

Moreover, he adds, a weaker dollar can make U.S. securities less attractive to overseas investors because their returns are reduced when translated into foreign currencies. Foreigners own roughly half of U.S. Treasury bonds, and they might require high yields to continue to attract them if the dollar falls further.

With the Dow Jones Industrial Average edging toward its highest closing level to date, the stock market hasn’t been too upset by the recent dollar weakness, and some stocks are obvious beneficiaries. Analysts point to big exporting companies in the industrial, material and energy sectors, such as General Electric, Caterpillar and John Deere.

“But it’s going to hurt consumer-staple companies,” says Brian Gendreau, investment strategist at ING Investment Management in New York. Big retailers, such as Wal-Mart, that import goods from Asia would face rising import costs if the dollar falls.

This could be true even for companies that import from China, where the yuan trades in a narrow band against the dollar. The G-7 statement took the unusual step of singling out China’s currency as one that needs to appreciate. Currency traders say the additional pressure from the G-7 is a step forward from what had been primarily U.S. pressure and makes Chinese currency appreciation more likely.

Citigroup, for one, recently revised its 2006 forecast for yuan appreciation versus the dollar to 7.5% from 5%. In a recent report, the bank said “we feel the government is preparing a shift” toward a stronger yuan to help keep the rapidly growing economy from overheating.

Other Asian currencies have already started to rally. The Indonesian rupiah is up 14% against the dollar over six months, while the Taiwan and Singapore dollars are up more than 5%. Since the euro gained 50% against the dollar from 2002 to 2004 — while the yen and other regional currencies didn’t appreciate half that much — analysts say the rally has plenty of room to continue.

“You’re likely to see Asian currencies participate even more,” says Jens Nordvig, Goldman Sachs currency analyst. He believes the Korean won, Taiwan dollar and Philippine peso are likely to appreciate a further 12% to 16% against the dollar.

By most accounts, Asia’s large surpluses and fast-growing economies should be boosting the value of their currencies. But many of the region’s central banks intervene to weaken their currencies so that their exporters can remain competitive with China. This trend continued last week, when South Korean and Singaporean officials intervened by buying dollars to keep their currencies from appreciating too quickly.

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