One of my favorite songs of this year is ‘I Forget Where We Were‘ by Ben Howard. The song’s title has been resonating with me recently as I get a wee bit reflective as we approach the twilight of an eventful year. So much has happened across currency markets, it is easy to forget where we were. So here is a simple summation of some of the more wild and wacky rides for certain currencies, and how – naturally – all paths lead back to energy.
The US dollar index is made up of a weighted basket of six currencies, with the euro, yen, and pound accounting for the vast majority of it at 83%. The euro accounts for the lion’s share, making up 57.6% of the index, with the Japanese yen second with 13.6%, followed by the great British pound at 11.9%.
The US dollar’s movement this year reminds me of a saying used by economist David Rosenberg (aka Batman, my favorite superhero), which goes ‘in the land of the blind, the one-eyed man is king‘. For although the US economy is plodding along okay, in comparison to other regions of the world it is looking stellar. It is not just a case of dollar strength, but a case of weakness elsewhere.
A perfect example is the Russian ruble. As we discussed back in September, economic weakness amid sanctions is plundering the ruble to record lows. A surprise rate hike last week has done nothing to help things, nor has an interim agreement between Russia and Ukraine to resume natural gas flows. The ruble unravels:
Changing continents, there is similar weakness in the Japanese yen as seen in the Russian ruble. For Japan has basically targeted a weak yen policy since late 2012 as ‘Abenomics’ have been employed – monetary easing – in an effort to stimulate its economy. The latest announcement of further stimulus last week is sending the yen spiraling lower against the dollar, meaning more and more yen are needed to buy $1…….113 yen and counting:
Yet one more example of currency weakness elsewhere comes courtesy of Brazil. While the Brazilian central bank has intervened this year to support its currency in an effort to fight inflation, the re-election of President Dilma Rousseff and a record budget deficit have proven too big a burden to stop the real devaluing, sending it to multi-year lows versus the dollar:
Onto the biggest constituent of the US dollar index…the big bad daddio, the euro. Making up nearly three-fifths of the dollar index, the weakness in the euro has been the ultimate driver of dollar strength this year. The euro weakness seen due to economic fears stoked since summer has sent the euro to multi-year lows, as fears of a region-wide recession resurface:
As we all know by now, all paths lead back to energy. Although there has been a plethora of bearish influences to drive crude prices lower in recent months (from economic weakness to rising supply to falling oil demand growth), none have been as pervasive as a stronger dollar.
Hence, as the chart below so starkly illustrates, as the US dollar pushes to multi-year highs, crude oil pushes to multi-year lows. It would appear that the direction of the crude market for the duration of this year will be highly dependent on the one-eyed man in the land of the blind.