What the G20 Means for the Dollar
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I'm back in the office after last week's Wyatt Investment Research company retreat. I wish I could say it was three days of relaxing fun in the Vermont mountains, but the truth is, it was three days of non-stop meetings and presentations.

At least we ate well...

However, I'm sure our meetings were more productive than the G20 meeting in Gyeongju, South Korea over the weekend. This is the second time the G20 has gotten together to chat in the last few weeks. And the only thing they can agree on is that the IMF needs to do something.

OK, G20 countries also agreed to "...refrain from competitive devaluations..." of their currencies. Unless you're the U.S. Federal Reserve, of course. There should be no doubt that the Fed's expected monetary easing is a form of currency devaluation.

Interestingly, though, the subtext of the G20 meeting wasn't the Fed's anticipated actions, it was China and the value of its currency, the yuan.

And it was Treasury Secretary Tim Geithner leading the rhetorical charge.

Due to cheap labor, China has become the world's factory. And that means that China now runs a massive trade surplus. Many countries, including the U.S., have concluded that China helps maintain its cost advantage and trade surplus by keeping the yuan undervalued.

In an interview withloomberg TV, Geithner acknowledged that countries with more flexible exchange rates are "under a lot of pressure" to maintain growth and stability.

"That pressure is magnified because some countries are still limiting the appreciation of their currency. And that's unfair," Geithner said.

Would there be a rejuvenation of U.S. manufacturing if China allowed the yuan's value to be defined by currency markets? No, at least no time soon. But there would be a change in the amount of new investment money that flows into China.

We saw a big drop on the S&P 500 last Tuesday. And Deutsche Bank (NYSE:DB) reported that 30% of short dollar positions were covered last Monday. That's an absolutely huge amount of short covering.

And you can see the result clearly on this chart of the U.S. dollar vs. the euro (USD)...


That big "up" day on the 19th is the dollar's short covering rally. And the dollar gave it right back the next day.

Now, as we know, stocks have been trading inversely to the dollar. That is, stocks rally as the dollar falls. Last week was the biggest move higher for the dollar since mid-August.

In the wake of the G20s pledge against competitive devaluations, not many are expecting Japan or any other county to act to weaken their currency. That should leave the dollar to move as traders want it to. The "short dollar" trade may be looking good ahead of the FOMC meeting November 2-3.

Speaking of the FOMC meeting, I found this paragraph buried in a Bloomberg article last night:

"The Fed may purchase $2 trillion of assets to stimulate the U.S. economy, starting with a program of about $500 billion of buying over six months that is likely to be announced at the November meeting, Goldman Sachs Group Inc. said in a note to clients."

You'll recall that I've noted the "whisper" number of $500 billion in recent issues of Daily Profit. I've also said that $500 billion is woefully inadequate.

Well, according to Goldman, it now may be $2 trillion total, starting with $500 billion.

I have no doubt that the Fed is leaking numbers to test the market's reaction. After all, we know that Bernanke is fond of transparency, at least when transparency is important to his goals.

If so, he should get a pretty good reaction to $2 trillion. That's definitely enough loot to shake the markets up.

Lost in all of the Fed/dollar talk is third quarter earnings. 85% of S&P 500 companies have beaten earnings estimates so far. And with companies continuing to invest in productivity rather than capacity, solid earnings growth can continue, even with relatively suppressed spending levels.

Of course, I'd like to hear your thoughts. I'll even print them. Write me here: [email protected]





Posted 10-27-2010 9:08 AM by Ian Wyatt