Yogi was right: With the dollar, it's deja vu all over again

During difficult financial times, investors often turn to likes of Warren Buffett or George Soros for analysis. However, today we turn to another sage -- Lawrence Peter "Yogi" Berra, retired Hall of Fame New York Yankees catcher and author of yogiisms, incisive malapropisms that reveal eternal truths.

One of Yogi's best known quotes, uttered in 1961 after teammates Mickey Mantle and Roger Maris hit back-to-back home runs for the second day in a row, is: "It's déjà vu all over again." Well, it looks as far as the dollar is concerned, Yogi was insightful as usual, and it's déjà vu all over again.

The dollar has resumed a familiar pattern -- falling, with the greenback losing more than five percent in a week against the world's other major currencies (euro, British pound, yen, Swiss franc) following the U.S. Federal Reserve's decision to expand its quantitative easing policy to jump-start the U.S. economy.

As a result of the central bank's decision, the Fed's balance sheet rose to $2.07 trillion and will likely exceed $2.8-3.0 trillion by the time financial crisis has been resolved. For some economists and analysts, that's tantamount to saying the dollar will weaken and U.S. inflation will be off to the races.

A bleak future for the dollar?

"Sell the dollar!" Scott Ainbury, a portfolio manager who helps manage about $12 billion in currencies at New York-based hedge fund FX Concepts Inc., told Bloomberg News Thursday. "This is huge, huge . . . This is the last thing the Fed has in the closet, and they used it a bit early."

But does shorting the dollar, which traded at $1.3670 versus the euro and $1.4510 versus the British pound Thursday night represent an unqualified, 100%, slam-dunk winning trade or investment? I.E. can investors just 'back up the truck' and get ready for a double-digit gain in euros or pounds?

No, they shouldn't expect the above, because although the dollar is likely to remain under pressure near-term, given the Fed's balance sheet and the U.S.'s large national debt, the buck is likely to be joined in the currency markets 'detention center' by at least two other major currencies: the euro and the pound.

The pound's vulnerability is already known, given the United Kingdom's comparable toxic asset problems and bank sector woes. The pound did rally versus the dollar after the Fed's Wednesday decision, but many economists don't expect that to last. Meanwhile, the euro will display a similar response, rising against the buck, but likely to give back those gains after the European Central Bank implements its own form of quantitative easing by buying government debt second-hand from commercial banks and other institutions, Reuters reported Thursday. For the ECB to buy government debt directly, European Union lawmakers would have to change a law.

Also, the Swiss franc, valued at $1.1241, could record solid gains against the buck, if European's recession doesn't slow the Swiss economy substantially: so far, it is doing exactly that. And Japan's yen, which traded at 94.50 yen to the dollar late Thursday, could hold that level or gain even more versus the greenback, given the nation's relatively lower exposure to toxic assets and provided Japan's recovery closely follows the U.S.'s. However, the dollar will reverse and strengthen against the yen if Japan's rebound underperforms.

So the dollar, despite a decade of public policy errors, despite a budget deficit that's likely to exceed $1 trillion this year and next, despite unprecedented quantitative easing, a pronounced recession, and Congressional Democrats and Republicans capable of fighting over the time of sunrise, will likely maintain a respectable value, assuming the U.S. economy resumes sustainable GDP growth.

Dollar Analysis: To be sure, the dollar faces a tough six to nine months and it's likely to fall further. But don't be swayed by the economic conservatives: the real measure of the dollar vis-à-vis the euro, British pound, Swiss franc and yen will occur after the U.S. economy starts to recover, and corporate revenue and earnings growth resumes. At that point investors, economists, and public policy officials alike will get a more precise indication regarding what the world thinks of the dollar and whether the international investment community views the United States as a pretty good place to invest capital.

Financial Editor Joseph Lazzaro is based in New York.
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