So what was new yesterday that drove the dollar in the dirt against the new safe haven stars (euro, yen, and gold)? I would have to say Yellen’s feckless performance in front of the cameras during here congressional testimony. The more she defended the Fed view, the more everyone realized there is no view. This shouldn’t be a big revelation over educated economists are confused about the direction of the economy and markets; but the degree of explicit confusion is higher than ever and rising. [I would add though Greenspan proved his cluelessness, in spades, he at least faked it much better than Yellen does.] It seems anyone who had some remaining confidence in the Fed saw it be eviscerated yesterday. Despite my perennial cynical view of the Fed, and low expectations, what we saw on display yesterday cannot be good for markets.
As Janet talked, bonds rallied. And the markets expectation of future rate hikes plummeted. The markets expectation of recession rose (evidenced by the falling spread between 10-year and 2-year notes as you can see in the chart below.
And now the report of Fed Vice Chairman Stanley Fischer talking with US banks about how they would hand negative interest rates is starting to make more sense when you consider the chart below showing the market’s rising expectations of the Fed moving to negative rate territory:
So what does this all mean for the dollar?
Well, at the moment, it isn’t dollar positive, especially against the have plays—which now represent the yen and euro; both reacted violently yesterday and showing follow-through today on Janet’s explicit confusion.
More evidence the dollar isn’t acting well is the rally in gold (finally also a haven) and the relatively stability in commodity currencies given the big risk off move in stocks (I am still expecting commodity currencies to get hit on risk off no matter what the euro and yen do).
But despite all of the “knows” talked about here, the question is this: Despite the Fed fecklessness and slowing growth in the US, won’t the relative growth in the US and relative yield in the dollar assets still be much better than Europe or UK or the Eurozone when the dust settles? My best guess is a resounding yes.
So, if the answer is yes, and fundamentals do play out over time, the rally in the euro here has to be seen as a great opportunity to go short once the dust does settle. The euro seems clearing in the midst of “overshoot” territory. Stay tuned.
Black Swan Capital