Dollar domination may well form a major part of a new order for 2011, with another day of significant gains for the greenback. The dollar’s move higher was notable for the fact it came against the backdrop of firmer stocks, going against the broader inverse relationship that was prevalent last year. Indeed, the -0.59 correlation between the dollar index and stocks in 2010 has been nearly perfectly reversed thus far in 2011. Furthermore, as the dollar has moved higher and commodities have been pummeled. Last year a main focus of asset allocation decisions was wealth protection from the vulnerability of major currencies such as the dollar and the euro; as a result the yen, the Swiss franc, emerging currencies and gold did extremely well, as did commodities in general. However, this year investor mentality appears to be changing, to one that is a little less conscious of wealth protection. In particular, with still very serious doubts about how the European debt crisis will unfold this year and a renewed confidence in the strength of the US recovery, the dollar is very much back in favour. This story could run for some time, given the almost universal pessimism towards the dollar for most of the second half of last year.
European issuance. Europe has to sell over EUR 1 trillion of bonds this year and it was notable that the first major offering of 2011 was raising money to bail out Ireland. The EUR 5bn issue was the first joint bond to be issued under the European Financial Stabilisation Mechanism (EFSM). Reports stated that the issue was three times over-subscribed and yielded some 60bp over the equivalent German paper. Being triple-A rated, there were never any great fears over this. German paper was also absorbed without a problem. It’s early days though and the euro could prove sensitive to any early set-backs.
Suffering Swissie. As liquidity has returned to markets, one of the major standouts has been the weakness in the Swiss franc. Indeed, the Swiss franc is the worst-performing major currency for the year thus far, behind commodity-based currencies such as the Aussie and the Kiwi. This in itself is pretty notable, not least because there was a fairly pronounced inverse relationship between AUD/CHF and stocks through most of last year (AUD/CHF strengthening as stocks rose). This broke down in December, with the strength in stocks coming against the backdrop of the second strongest month (trade-weighted) for the Swissie in two years. Stocks, and more so the euro’s route through sovereign funding, are the two main risk factors through to this weaker tone, which the SNB will most likely welcome given the crippling CHF strength of the past three years. Weaker stocks would favour USD over CHF, but it is a further deterioration in sovereign risk sentiment in the eurozone that would really be crippling for the Swiss economy, which could not stomach another year of double digit CHF appreciation as was seen in 2010. SNB intervention risks would increase on move towards 1.20 on EUR/CHF.
US employment prospects looking up There were more signs yesterday that the US economy is on the mend, with the news from ADP that private employment in the US jumped by 297K last month, the biggest monthly increase in the six-year history of the survey. Notwithstanding the remarkably poor November payrolls outcome, there has been plenty of evidence in recent months that jobs growth is definitely on the rise. It certainly augurs well for this Friday’s non-farm payrolls outcome, where a rise of 250K is perfectly plausible, especially in the wake of the disappointing 39k rise in non-farm payrolls seen in December. If seen, this would more than likely place further support underneath the dollar.
EU fleshes out new plan on burden-sharing. The executive of the EU is about to send around a consultation paper which is designed to flesh out the crisis resolution mechanism first outlined by German Chancellor Angela Merkel back in late October. According to Reuters, who claim to have seen the draft, national resolution, authorities are to be given additional powers to demand that senior bond-holders participate in any burden-sharing alongside stock and junior debt-holders in the event that a European bank becomes insolvent or is threatened with insolvency. In this way, according to the draft, the liability of taxpayers to fund future bailouts will be substantially reduced.
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