Why the Dollar Insists on Bouncing in 2008

Today's comment is by Sean Hyman, Currency Director and editor of The Money Trader.

Dear A-Letter Reader,

If the U.S. economy is sinking, then why is the beaten-down dollar rallying right now?

Seems strange, but in reality there are five key reasons why the dollar is headed north this winter. For starters, we're seeing:

Higher inflation data - The Producer Price Index (which tracks inflation at the producer level) and Consumer Price Index (which tracks inflation at the consumer level) both showed much higher inflation lately than usual. . Foreigners have increased their purchasing in America due to the "cheap" dollar thus driving inflation higher.

Since inflation is creeping up, the U.S. Fed may have to stop cutting rates, and start fighting inflation. If the Fed stops cutting rates, the dollar will stop sliding further.

High euro and British pound exchange rates - At some point, a country's exchange rate gets too high for its own good and starts to hurt that country's export sector. This is exactly what's happening all over Europe right now. The euro shot above US$1.49 and the pound got over US$2.11. These "extreme" rates were killing their export prices.

So as this takes its toll on the economy, the exchange rate eventually drops to reflect the softer economy. When the exchange rate drops, it means that traders are selling euros and pounds. When traders dump European currencies, it boosts the dollar upward against it in the EUR/USD and GBP/USD pairs. So that alone causes dollar buying even though the U.S. economy still isn't in good shape.

Carry-trade unwind - "Carry-trading" involves buying a high-yielding currency against a low-yielding currency so that you profit from the daily interest differential. However, this strategy only works in a low volatility environment where high-yielding currencies are on the rise.

Lately, these "high yielding" currencies have been dropping because currency volatility has more than doubled. In such a high-risk environment, traders tend to dump "high yielders" for safer, low-yielding currencies. Just by selling, these traders are forcing money to flow away from these high-yielding currencies.

Where did the bulk of trading capital flow? Firstly, money flowed to the beaten down Japanese yen because traders borrowed yen the most to finance their carry-trades. Secondly, money flowed to the Swiss franc because the Swissie is the next most popular currency sold in carry-trades. Lastly, it flowed into the U.S. dollar because it's been so unusually beaten down.

Long story short, as the third most beaten down currency, the buck stands to profit when these carry-trades come undone.

Housing numbers are starting to stabilize - On Tuesday, the Housing Starts and Building Permits numbers were released. And the numbers basically met economists' expectations. The previous Monday, Pending Home Sales beat expectations. So we're starting to see some life come back into the housing market slowly. I'm sure it will be a bumpy ride with some negative numbers sprinkled in here and there.

However, just to have some numbers start to meet or beat expectations in the housing arena is a great sign. The most important numbers to watch out for will be the New and Existing Home Sales numbers. See how they come out and they'll paint a better picture of how the dollar will fare in 2008. Both of these numbers are important, but pay particular attention to the existing home sales because it's the broadest measure of the overall housing market.

Commodities stall temporarily - Commodities and the U.S. dollar trade somewhat inversely. So when commodities are going up overall, the dollar is going down. When commodities are declining, the dollar is rising.

Take a look at the CRB index to the left (which tracks a basket of commodities) and you'll see that it's broken its upward trend in the short term and has hit a "brick wall" of resistance around the 355 level. The U.S. dollar will continue to prosper if the CRB index can't break and hold above the 355 level.

As you can see, the "planets have aligned" in the dollar's favor for now. And I'm predicting the dollar will continue this short-term bounce well into 2008.

SEAN HYMAN, Currency Director

EDITOR'S NOTE: The markets have gotten so used to the dollar plunging, that your average "Main Street" investor will be shocked when the dollar rallies in 2008. In fact, many investors will be shocked by the extremely volatile markets next year. But on February 20 - 23, a small group of investors will meet in St. Kitts for an emergency briefing on the markets. This unprecedented event will give you all the financial fire-power you'll need to survive - and thrive - this coming year. You're invited to join us. Sign up before JANUARY 1st, 2008 for this "Emergency Money Summit," and you can even bring a guest FREE. Click here for more details.

As Candidates Step Up Attacks on
Offshore Havens, the Time to Act is NOW!

Early this year I predicted: "It looks as if this [offshore] attack will be a staple of presidential politics as well."

That's unfortunately coming true, but the hypocrisy of those manufacturing this phony issue needs to be exposed for what it is. It's just a crass continuation of the traditional Left-wing class warfare that seeks to divide America to gain political power, (not that the Republicans are the great unifiers!).

In a December 13 Iowa debate, Hillary Clinton's chief rival for the Democratic nomination, Senator Barack Obama of Illinois, promised he would crack down on "corporate loopholes and tax savings, particularly those involving offshore transactions."

Obama joined the anti-offshore crowd earlier this year cosponsoring bills by fellow anti-tax haven senators such as Levin (D-MI) and Dorgan (D-ND). The radical legislation wrongfully paints offshore tax havens as nothing more then sinister places where Americans only go to evade taxes.

Forewarned is forearmed...and I repeat, now is the time to take advantage of banking, investment and residential opportunities offshore, while you still can - just as have Bill and Hillary, John Edwards and John and Teresa Kerry. See my blog right now for what the country's leading presidential candidates have been saying about the offshore world.

BOB BAUMAN, Legal Counsel

P.S. Find out more about offshore investing, tax havens, real financial privacy in places where you're the foreigner - and you may be able to reap the foreigner's tax benefits. Click here to learn more about the offshore option. for some ideas on where to look.

Wealth

Commodities That Will Defy a Dollar Rally in 2008

If the heavily oversold U.S. dollar musters an unexpected rally next year, some commodities might suffer big declines.

Bull markets are always accompanied by sharp, painful corrections. Already this decade, we've seen a major bull market take hold for raw materials. Two leading benchmarks have gained more than 200% since 2001. Virtually every commodity has posted even bigger gains since then, including the base metals until recently. From its low in 1998, spot West Texas crude oil has skyrocketed 820% or more than eightfold.

The most widely followed commodity indices are the Reuters/Jefferies CRB Index and the GSCI or S&P Goldman Sachs Commodity Index. Like all commodity indices, crude oil and the rest of the energy complex holds the largest constituent weighting. And as goes oil, so goes the bull market.

Oil prices were unchanged in 2006 but several commodity benchmarks still declined as other sectors of the market tanked. That includes namely natural gas and some of the soft agricultural commodities.

I think the odds of oil prices declining next year, even modestly, is high. Global economic growth is slowing as the reality of "decoupling" becomes a myth. That's because the United States is still the world's largest economy, and when she slows, the rest of the world feels the heat. I don't think oil prices accurately reflect a slowing economy. Natural gas, on the other hand, looks extremely compelling against oil.

If I was betting on indices in 2008, I'd avoid the GSCI and instead concentrate on the grains, the meats and precious metals. The GSCI holds about 70% of its assets in energy futures - vulnerable to a major correction in crude oil. None of the diversified commodity benchmarks have big positions in these three areas so I'm more inclined to play it individually.

In addition to slowing global growth next year, watch out for a rising dollar.

The buck is heavily oversold at these levels against most currencies and might surprise investors in 2008, if only temporarily. The dollar, after having plunged from 2002 to 2004, enjoyed a short-term cyclical bounce in 2005 as the Fed began raising rates.

Yes, the Fed is cutting rates now but if the European Central Bank finally relents and stops fighting yesterday's war on inflation and cuts rates, the dollar might post a big rally.

A sharply stronger dollar might cut into commodities prices. I'm already very bearish on the base metals (topping out) and would avoid most energy trades, except natural gas.

But the fundamentals for the precious metals should defy a dollar counter-rally because of shortages in near delivery for gold and platinum.

I also like the grains and other soft commodities, which remain extremely cheap compared to their inflation-adjusted highs in 1980-1981. Plus, the meats, a boring place to diversify this year, should come alive as feed prices continue to rise into next year, boosting cattle and live hog prices.

ERIC ROSEMAN, Investment Director

P.S. What precious metals should you stock up on for the New Year? Click here
for all my best gold and silver plays.

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