Excellent article on why the euro's decline may reverse soon (note: written before this morning's intervention):
interactive.wsj.com
September 22, 2000
A Wild and Crazy Idea?
Some Bet on Ailing Euro
By MICHAEL R. SESIT
Staff Reporter of THE WALL STREET JOURNAL
LONDON -- The negative views driving the European common
currency to one record low after another has been unrelenting. And
there have been solid reasons for it: Europeans are gobbling up wads
of U.S. stocks and companies, the U.S.'s high-tech economy is
galloping ahead of Europe's, and central banks don't seem inclined to
intervene to reverse the euro's slide.
For a contrarian, it could be the buying opportunity of the decade.
No doubt, betting on the euro takes guts. It has plunged about 27%
against the dollar and 32% against the yen since its birth on Jan. 1,
1999. A German politician a few days ago equated the currency with
that of "a banana republic," while the gurus at consultants Foreign
Exchange Analytics in Essex, Conn., sent a note titled "Euro on Death
Row?" to clients. Money managers are circulating joke e-mails
announcing that the British makers of the venerable board game
Monopoly decided to replace its "play" pound with euros.
Even hedge funds have been burned. Speculators kept buying euros
as the currency fell all the way to 85 cents to the dollar from 95 cents,
notes Michael Lewis, a senior currency analyst at Deutsche Bank in
London. "One thing the bottom-fishers have learned in the last three
months is humility," says David Gilmore, a partner at FX Analytics.
Yet there are some compelling reasons to think the drop may be
overdone. Indeed, some savvy investors are betting heavily on a
rebound.
Late last year, Bridgewater Associates, a Westport, Conn., firm that
manages $31 billion for pension funds and central banks, began
buying euros. In a recent report to his clients, Ray Dalio, the firm's
president, acknowledged, "We have been long and wrong the euro for
several months." But he also added, "We have some opinions about
why this will eventually pay off."
For starters, Mr. Dalio accepts that strong U.S. productivity growth
supports the dollar, but he contends that its importance is vastly
exaggerated. Going back nearly 30 years, he points out that "there is
virtually no relationship between short-term variations in productivity"
and exchange rates, adjusted for inflation.
Moreover, Bridgewater research shows that euro-zone acquisitions of
non-euro-area companies are running at an annual rate of 7% of the
region's gross domestic product, up from 0.5% a couple of years ago.
"That's the biggest factor behind the euro's decline," Mr. Dalio argues,
and the pace just isn't sustainable.
Moreover, French, Dutch, Spanish and other Euroland companies
largely finance those acquisitions by borrowing euros and converting
the euros to dollars to pay the sellers. That in turn leaves them with
euro liabilities but dollar-denominated assets. Mr. Dalio figures the
Europeans will convert dollar cash flows from their newly acquired
American companies to euros to repay their euro debts, and that
could prove to be another bullish factor for the euro.
"If Euroland acquisitions fall from their 7% of GDP level -- even if they
remain large -- the euro will rise," says Mr. Dalio. "And repaying their
euro loans is bearish for the dollar and bullish for the euro."
He also argues that European purchases of foreign stocks, up fivefold
since 1996 and another pressure on the euro, can't be sustained. The
increase is largely a product of the creation of the euro and of legal
changes that freed pension funds and insurers to invest in stocks and
also invest outside their home market. That makes it a one-time
reallocation of assets, says Mr. Dalio.
He adds that investors' portfolios have reached their allotted dollar
allocations and that the buying will cease, which should be
euro-bullish. "Can we be wrong? Sure," says Mr. Dalio. "But we like the
odds."
After hitting record lows Monday through Wednesday, in late New
York trading Thursday the euro rose 0.96 cent to 85.79 cents on the
dollar as traders turned cautious ahead of a meeting of finance
ministers from the leading industrial nations in Prague this weekend.
Robert Sinche, a currency strategist at Citibank in New York says
there are signs the dollar "may be entering a 'blow-off phase' in which
psychology drives the currency above sustainable levels."
For one thing, he says traders and investors are ignoring growing
evidence that Uncle Sam's economic boom is slowing. Two, net foreign
purchases of U.S. stocks and bonds slowed during the second
quarter. Three, U.S. interest-rate expectations have begun to recede.
Four, more and more U.S. companies are blaming the high dollar for
poor earnings. Five, falling U.S. stock prices, which used to push the
dollar lower, are "having little impact as the dollar rises to new highs,"
says Mr. Sinche. He expects a reversal, and the euro to trade
between 95 and 97 cents in a year. That would be up 11% to 13%.
That is not a bad return, considering Standard & Poor's 500-stock
index is down 1.4% this year, the Nasdaq Composite is off 5.9%; the
Nikkei-225 has fallen 14%; and French, German and United Kingdom
markets range from minus 10% to plus 5%. (These results are in
local-currency terms.)
"Buy low. Sell high. There will be a bottom," one reader said in an
e-mail to The Wall Street Journal two days ago. The only questions, of
course, are when and how low.
Write to Michael R. Sesit at michael.sesit@wsj.com |
