Dollar’s Rally Is Overdone

This morning the Bureau of Labor Statistics announced that the unemployment rate had dropped from 10.2% to 10% and that nonfarm payroll jobs declined by just 11,000.  The market rallied in the early morning, only to give it all back as investors used the rise to take profits.  But the biggest movement prompted by the jobs news has been in the currency markets.  Following the BLS release the dollar has gained well over 1% against the Euro, Aussie Dollar, and Japanese Yen (NYSE: FXE, FXA, FXY).

Over the past few months there has been tremendous force behind the decline of the dollar.  The United States has taken on Japan’s pre-crisis role of carry trade funds.  With U.S. short-term rates close to zero, investors have borrowed in dollars and then selling them to invest in higher yielding currencies.  Officials at the Fed have stated that the watching jobs data to signal when it is safe to raise interest rates.  Today’s job data appears to have spooked carry trade participants, making them believe that time will come sooner rather than later.  The dollar’s rise have prompted a near 5% decline in the price of gold, which has moved inversely with the dollar.

This movement in the currency dollar (and the related movement in gold) is probably overdone.  While positive news from the job market makes a rate hike more probable, it will not be happening any time soon.  There is no reason to believe that November’s job improvement is the start of a trend.  Furthermore, inflation data is hardly weighing on Fed officials.  In the meanwhile, short-term interest rates at still near zero and investors still see plenty of yield overseas.  As the effects of this most recent job report wear off, the dollars is likely to resume is march downwards.

Garrett W. McIntyre