Friday, November 9, 2007

Read This: The Buck and The Market

We learned the lesson first hand.
The 1985 Plaza accord put in motion what turned out to be a 50% decline in the dollar. The February 22, 1987 Louvre accord set the table for the stock market turn-down that started, almost to the day, six months later.
DJIA 2722 Aug. 25 to 1738 Oct. 19.
36% in 55 days. Ouch.
Leveraged 3:1= Wipeout. On an index.

From CNN Money:

...The dollar has had declines of 25 percent or more twice in the recent past; the current fall is 36 percent since 2002 against a basket of foreign currencies. In the early 1970s, the peculiar combination of rising inflation and low demand known as stagflation was weighing the buck down. In the mid-'80s, the dollar fell amid fears the U.S. was about to be overtaken by Japan Inc. as the world's economic superpower.

This time around, the reasons for the decline are more subtle. The U.S. economy has been expanding, but that growth has not been spread evenly; now the meltdown in the housing market poses a recession threat.

Moreover, we're running a large federal deficit and a trade gap of nearly $60 billion a month. All of that puts downward pressure on the dollar....

...Dollar up, stocks down?

But the flip side of our stuff being cheaper overseas is that imports are more expensive here. And we do like to import. Eventually that means rising inflation. In both the early '70s and mid-'80s, inflation related to a falling dollar led the Federal Reserve to raise interest rates. That stabilized the buck - and sank the stock market. (See the graphic to the right.)

"Whenever the dollar turns, it will probably mark the beginning of the next bear market," says Christopher Orndorff, head of equities for Payden & Rygel, an asset management firm in Los Angeles....MORE