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How Does the Dollar Perform After a Recession?

Last updated 5/15/2009 5:42 PM ET (GMT -5) 0 Comments - Add your comment

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Kathy Lien

Director of Currency Research, GFT

THE STORIES IN THE CURRENCY MARKET

• HOW DOES THE DOLLAR PERFORM AFTER A RECESSION?
• EUR/USD: CRUSHED BY WEAK GDP
• GBP/USD: WILL UK GROWTH BE AS WEAK AS EUROZONE?
• NZD/USD: RETAIL SALES CONTRACT FOR 6 STRAIGHT QUARTERS
• AUD/USD: GOLD PRICES RISE, OIL RETREATS
• USD/CAD: MANUFACTURING SHIPMENTS PLUMMET
• USD/JPY: YEN SHRUGS OFF WEAK DATA

EXPECTATIONS FOR UPCOMING FED MEETINGS

HOW DOES THE DOLLAR PERFORM AFTER A RECESSION?

Positive economic data has led more people to believe that the longest U.S. recession since the Great Depression is nearing an end.  Consumer confidence rose to the highest since September while the contraction in manufacturing activity slowed.  The rosier outlook was confirmed by comments from Federal Reserve officials. Fed President Stern believes that the recession is nearing a bottom while Fed President Fisher is relieved that the economy is back from the edge of abyss.  The credit markets are also easing with Bernanke expecting investor appetite for TALF loans to improve next month.  Yet the U.S. dollar has rallied against every major currency except for the Japanese Yen on stronger foreign demand for dollars and news that GM is closing more dealerships.  However both of these factors do not undermine the overall improvements in the U.S. economy and therefore the U shaped recovery that we have been calling for is still in place.  As we get closer to a bottom, it is interesting to consider how the dollar has performed after recessions.

Dollar’s Performance after a Recessio n

In the past 30 years, there have been 3 recessions.  The most recent lasted from March 2001 to November 2001, a period of 8 months.  The one prior to that was in the early 1990s which lasted from July 1990 to March 1991.  The current recession has been most commonly compared to the recession in the 1980s, which started in July 1981 and lasted until November 1982, a period of 14 months.  We thought it would be interesting to see if there was a consistent trend in dollar after recessions and unfortunately based upon the limited data set of 3 recessions, we have found that the only pattern is the weakness of the dollar against the Japanese Yen 12 months after the recession.  When the 2001 recession ended, the dollar traded higher against both the euro and Japanese Yen for the first 3 months but then gave back its gains over the next 8 months.  In the 1990s, the dollar traded higher against the euro but lower against the Japanese Yen the first 3 months after the recession ended.  The dollar fell further against the Yen but recovered its losses against the euro over the next 8 months.  In the 1980s, the dollar fell in the first 3 months after the recession and continued to fall over the next 8 months against the Yen but recovered its losses against the euro.

Baseless Threats from Chin a

Of all the economic reports that were released this morning, the one that we found most interesting was the Treasury International Capital flow report.  In recent weeks, there has been a lot of speculation that the dollar could lose its reserve currency status.  China has taken every opportunity to express their discontent with U.S. fiscal and monetary policies by saying they are worried about the future value of the U.S. dollar.  However the same month that Premier Wen first made these comments, the Chinese government also bought $23.7B worth of U.S. Treasuries, their largest purchase since November.  If a regular investor is really worried about the safety of their investments, we would expect them to decrease and not increase their exposure. Unless China puts their money where their mouth is, their threats about selling dollars are baseless.  

Economic Data: Review and Previe w

Aside from the rise in foreign investment (TIC data), the improvement in consumer confidence and the sharp rebound in the Empire State manufacturing survey, consumer prices also saw the largest annualized decline since 1955. Core prices rose modestly because of higher food and energy costs, but headline consumer prices held steady.  Deflation or inflation is not much of a risk right now based upon the latest PPI and CPI numbers.  In the coming week, the U.S. economic calendar is relatively light.  Housing starts and building permits are due for release on Tuesday, followed by the minutes from the April Federal Reserve Monetary Policy meeting on Wednesday, jobless claims, the Philly Fed index and leading indicators on Thursday.  In general, we continue to expect manufacturing and housing market data to show signs of improvement, which should lead to renewed weakness in the U.S. dollar.  

Lazear on the Economy

EUR/USD: CRUSHED BY WEAK GDP

The euro came under aggressive selling pressure on shockingly weak economic data. The recent flood of good news for the region has been completely derailed by the GDP numbers. Growth in the Eurozone fell by the fastest pace on record, since the tracking of the data began in 1995.  The biggest slowdown was seen in Germany and Italy with the largest member of the Eurozone reporting the weakest growth in 40 years.  The pace of contraction in France slowed, but on an annualized basis, the contraction accelerated.  Although core consumer prices rose slightly more than expected on a year over year basis, CPI still remains below the ECB’s 2 percent target.  However before turning too bearish, we do want to point out the fact that the data is from the first quarter and the latest improvements are from the second quarter.  The conflicting message makes next week’s Eurozone economic reports even more important.  Trade balance, the ZEW survey, producer prices and PMI reports are due for release next week.  Meanwhile there has been a sharp rally in EUR/CHF as the Swiss National Bank continues to take efforts to drive the currency pair higher, creating a floor at 1.50.

Eurozone Economy Shrinking Fast

GBP/USD: WILL UK GROWTH BE AS WEAK AS EUROZONE?

Earlier gains in the pound have been sapped as equity markets push to the downside. An economist from Morgan Stanley said today that it is very likely that Mervyn King will have to ask the Treasury for the authorization to commit more funds to the asset purchasing programs. The fact of the matter is many expect that inflation will not be able to stage a comeback unless drastic steps are taken. Many still seem shocked by King’s statements about the fact that the UK may not recover as quickly as expected. This week has been full of similar letdowns from the global economy, whether it be from cautionary central bank statements or just worrisome economic releases. For this reason, the UK will be facing a very critical week. Not only will they be releasing Consumer Prices, but also GDP. Both of these reports will render significant impact on the chances that the BoE is forced to print more money. Even though there is the threat that inflation will fall below the target zone, it is likely that growth will be the big story for next week. After watching production in the Euro-zone slump by historic proportions, the fear will be a similar slump in the U.K.  Thankfully the improvement in trade and retail sales during the first 3 months of the year suggests that growth may not be that weak.  

NZD/USD: RETAIL SALES CONTRACT FOR 6 STRAIGHT QUARTERS

The Australian, New Zealand, and Canadian Dollars declined against the greenback as the rally in commodities stalled.  New Zealand retail sales numbers were mixed with consumer spending falling 0.4 percent month of over month.  However if you strip out spending on automobiles, retail sales actually increased 0.5 percent.  Still the decline marks the sixth consecutive quarter of negative consumer spending in New Zealand as rising unemployment strains consumer finances. New Zealand’s Treasury Secretary John Whitehead stated that the economy may remain in contractionary territory for seven quarters before returning to growth.   On Sunday, New Zealand will be releasing their service sector PMI report and producer prices.  The Australian dollar also lost ground against the greenback as risk appetite retreated.  The only noteworthy pieces of data due from the country next week are the minutes from the latest monetary policy meeting and consumer confidence.  Central bank Governor Stevens and Treasury Secretary Henry will also be speaking on the economy.  Weaker manufacturing shipments and a correction in oil prices drove the Canadian dollar lower.  Next week, Canada reports consumer prices, leading indicators and retail sales.

USD/JPY: YEN SHRUGS OFF WEAK DATA

Despite worse than expected data, the Japanese Yen strengthened significantly against other major currencies. Machine Orders continued to plummet in March plunging 22.2% year to date. Investments into equipment which accounts for roughly 15% of Japan’s economy continued to descend as managers are skeptical of a future pickup in sales. As a result, prices paid for goods purchased by corporations fell for the 8th consecutive month instilling fears of a deflationary spiral. Bank of Japan Governor Shirakawa denounced the uncertainty, citing that consumers expect prices to rise in the not too distant future as monetary and fiscal policy spurs demand.   Furthermore, economists predict that the world’s second largest economy will bottom in the second quarter after contracting significantly in the second quarter.  The following week presents tremendous amount of economic data which will elaborate on the state of the economy. Consumer Confidence is expected rebound from ultra low levels, advancing for the 4th consecutive month. Bank of Japan rates expect to remain unchanged at 10 basis points, while Tertiary Index is expected to contract.  First quarter GDP numbers are also due for release.  

Japanese GDP Outlook Too Optimistic

NZDUSD: Currency in Play for Next 24 Hours

NZD/USD will be the currency in play on Monday. Late Sunday, New Zealand will announce Producer Prices at 22:45GMT or 6:45PM EST. The, U.S. will then report NAHB Housing Market Index at 17:00GMT or 1:00PM EST.

After a strong trend, the NZD/USD has fell out of the Bollinger Bands buy zone and is now trading in the Range trading zone. Currently, the pair hovers slightly above 200-day SMA and if the NZD/USD breaks the moving average the next level of support will be at 0.5780. This support level represents the 38.2% retracement of the August high and this year’s low. However if the pair resumes its uptrend, the next level of resistance is the swing high of 0.6130.  The odds are skewed towards a test of support.  

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.