Financial Crisis and US dollar Pullback

Financial Crisis and US dollar Pullback

 

         I write the post (here and here) to explain the reason why US dollar is time to pullback. Now make some update on this topic. According to history, when financial crisis take place, US dollar tend to get weaker either in bull or bear market. It is because when Fed has a tendency to inject liquidity into market or ease monetary policy for containing the crisis; it leads to weaker US dollar as the largest reserve currency all over the world. You can find this pattern in Figure 1. Given current background, recently parabolic rally of USD may trigger the outflow of capital from emerging market and worsen the current account of some resources focused countries such as Russia and Canada. In addition, some indicators I will go though as follow reveal the risk is building up although SPX still is close to new high. Moreover, US dollar now is overbought, over optimistic and over stretched. Pullback may be immediate due to financial crisis.    

            Figure 1: We can observe in the history that USD gets weaker at the start of financial crisis.

Source: Nordea Markets

            Figure 2: BofA Merrill Lynch Irisk Indicator plunge dramatically recently to make a divergence.

Source: PFS Group

            Figure 3: Bloomberg Financial Condition Index also keep falling since mid 2014.

Source: PFS Group

            Figure 4: Canada and Australia LIBOR-OIS worsen in sudden. (Two countries also is facing the housing and debt bubble)

Source: PFS Group

            Figure 5: Russia CDS hit a new high and International Reserve Asset hit a new low.

Source: PFS Group

             Figure 6: Gold keep to rally regardless of the parabolic rise of USD and no longer follow the plunge of the commodity. Smart money may flow into risk aversion haven and expect Fed may ease monetary policy or at least postpone the rate hike to prevent crisis to spread.

Source: StockCharts.com

              My takeaway is that there are some signals that crisis may be coming soon. Fed is likely to ease to contain the crisis. This action will make USD weaker. However, USD will resume the bull market because the capital flow form other market into US economy after the crisis is contained.