Beware the Two-Sided Dollar Trade

Friday, 22 Oct 2010 07:19 AM

By Larry Kudlow

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Traders beware. Treasury man Tim Geithner appears to be setting up a two-sided dollar trade. The dollar could go up, not just down.

Following my latest column (Geithner Strives to Save the Dollar), where I discuss how the Treasury man said we can’t devalue our way into prosperity, there’s new information from today’s Wall Street Journal: Geithner says “the major currencies are roughly in alignment now.” And the WSJ thinks that might mean Geithner sees no need for the dollar to sink more than it already has against the euro and the yen.

In Thursday’s trading, the dollar index is up about a third of a percentage point. Gold is off $18 and has now corrected about $60 lower from its early week peak.

Geithner’s comments on the euro and the yen are very important. Yes, he wants the Chinese yuan to go up against the dollar, which is a depreciation for the greenback. But he separates that away from the yen and the euro. And it seems to me that he really lays down a marker in the sand. It could be a dangerous marker for traders and investors who until recently have been totally short the dollar and long gold and commodities.

Of course, the question is: What will Geithner do to back up his strong dollar-defense language? Will he intervene in the foreign-exchange market to support King Dollar? I’m especially interested in the dollar-euro relationship, which is probably the most important in global trading.

And that’s why I warn about a two-sided market. Up to now, shorting the dollar has been like shooting fish in a barrel. This may change.

And there are more implications: Perhaps Geithner and Fed head Ben Bernanke are working out a deal with the Japanese and Europeans. Such a deal might include a minimal Fed QE2 pump-priming.

In other words, stock investors beware -- at least those who believe a $1 trillion QE2 of new liquidity is good for stocks. Expectations of a massive Fed easing may be way overblown. It could turn out to be a miniscule pump-priming and new-dollar-creating action. And that could cause a setback in stocks, despite strong earnings reports and the Tea Party congressional cavalry coming to Washington on November 2.

Once again, I don’t know how to completely read Geithner’s comments. But he has been very visible and very bold, really putting himself out there with these dollar-protection statements. He must know that if he fails and the dollar tanks, his credibility will suffer irreparable damage. And that’s why I believe he knows exactly what he is doing, and that he has some new cards up his sleeve to protect King Dollar.

So as I said, traders beware.

To find out more about Lawrence Kudlow and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate web page at www.creators.com.

© Creators Syndicate Inc.

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