Armageddon was averted this week. The government shutdown and near default is over for now, and soon headed for one of those chapters in history books that we would rather forget. But before we can turn the page, we must recognize that the next month or so of economic data will be nearly useless as it was skewed by the Washington, D.C. circus.
The real question now is, "Where do we go from here?" The short answer is that we pick up where we left off before "incompetence" became the watch word in Washington.
For global investors that means a search for yield, which by definition includes risk and has implications for where we go with foreign exchange. Currencies can be divided into roughly three groups:
- The high yielding currencies that are primarily from commodity-rich nations like Australia, New Zealand and Brazil.
- Those currencies in the middle group that are from highly-developed financial systems with a diversity of economic drivers. This includes the U.S., core Europe and the U.K.
- Those currencies with persistently low yields with the most accommodative central banks. Japan and Switzerland lead this group.
For the very high and very low yielding currencies, the path looks pretty clear – there will be more pressure upward on high-yielders and downward on low-yielders.
Where it becomes more difficult is the middle group, which is where most of us are concerned. Certainly the immediate reaction of the currency markets was to sell the U.S. currency. The dollar dropped by about one percent across the board Thursday, as the post-debt trading environment became clear.
My View: If yields are really the driver of currency valuations, it is hard to make a case for a strong dollar. The Fed was already on course to maintain its asset purchases (no tapering), and with this debt ceiling and government funding fight set to return in early 2014, it is hard to see how the Fed, particularly one headed up by Janet Yellen, will have any tightening of monetary policy for quite some time. Look for the U.S. dollar to remain weak going into this year and early into 2014.
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