In recent weeks, as well as in the rally of 2010, many people were talking about the supposed strength of the U.S. dollar.
However, the index that experts use to track the dollar (the U.S. Dollar Index, or DXY) is very, very flawed. First of all, it only tracks the dollar against six currencies: the euro, the Canadian dollar, the Swedish krona, the Swiss franc, Japanese yen and the British pound.
The major flaw is that there isn’t South American currency exposure and limited Asian currency exposure in this index (outside of Japan). In addition, more than 57 percent of its weighting is in the euro. Therefore, if the euro is weak, then the U.S. Dollar Index tends to be strong.
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If you take a look at the U.S. dollar against the Canadian dollar, Aussie dollar, Brazilian real, Chilean peso, Thai baht and most commodity-related currencies, you will see that it has been very weak during the past year.
The Canadian dollar, Aussie dollar and Swiss franc have all broken par with the dollar. The real and peso are trading at multiyear highs or near all-time highs. Therefore, the U.S. dollar is, in fact, very weak.
In addition, the U.S. Dollar Index doesn’t include the Chinese yuan or Indian rupee (currencies of the soon-to-be two largest economies in the world).
In addition, the Reuters Commodities Index, or CCI, just recently hit a new all-time high. Gold hit an all-time high in December 2010. This means that the dollar continues to fall in value against commodities and gold. Therefore, other than the euro (which is another very weak currency), the dollar continues its bear market against nearly every other asset class.
With $1 trillion deficits as far as the eye can see, look for more dollar weakness ahead even if it doesn’t fall against the euro.
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