The Economy and the Credit Market

The dollar was on the verge of collapse last Wednesday – and a late session break seemed to push the currency over the edge. However, this market-defining move proved more a reflection of liquidity than a meaningful revival of a long-term bear trend. Heading into the thin liquidity conditions that plagued the markets into the second half of last week, leave the skeleton crew with a scenario where the benchmark currency was on the verge of a massive breakout was deemed too dangerous; and a concerted effort was made to defuse the situation by forcing a break in the direction with the least resistance (or fundamental meaning) – a bearish break. Any doubts that this was a pressure release were quickly snuffed out by a sharp reversal in the dollar that would later be supported by the threat of a sovereign default in Dubai. And, while the potential credit event wouldn’t pan out; the market’s dramatic flight to safety perhaps reflects the doubt that is exists beneath the surface of optimism and capital reinvestment. Fundamental activity aside, the dollar is essentially in the same spot this week that it left off on the previous one. Today’s Fed Beige book reminds us that the US economy is performing relatively well compared its peers. Also, interest rate forecasts still put the Fed ahead of its ECB and BoE counterparts. The weight for the dollar therefore is still in risk appetite. Will sentiment deflate? Will the dollar’s funding currency status change? Will pressure for the Fed to deflate asset bubbles work? These are the questions to ask.