Graph of the week

Graph of the week

22-09-2017 | インサイト

Help! The dollar is falling!

  • Lukas Daalder
    Lukas
    Daalder
    Chief Investment Officer

https://www.bespokepremium.com/the-closer/the-closer-risk-sentiment-9517/

Disaster! Never before has the US dollar been as weak as it has this year! Panic! Or am I going overboard now?

The dollar is falling. Weak US figures: bad for the dollar. Missiles from North Korea: bad for the dollar. US market at a new all-time high: bad for the dollar. The US government won't be shut down, after all: you guessed it... Some arguments are valid, but others, not so much. For example, after it was announced last week that Draghi preferred not to give a specific date on which the ECB would end quantitative easing, bond markets rallied and yields fell. Normally, you'd expect news like that to weaken the euro, but this time it was the dollar that was marked down. Call it sentiment.

So it is clear that the dollar is struggling. Based on the graph above, however, it seems like there's more going on than just a case of the summer doldrums: never before in the last 23 years has the trade-weighted dollar been so weak! The most obvious explanation is that it's all Trump's fault, but before we blame it on him, let's have a look at whether or not it's even true. The answer? Yes, it's true, if you only look at data going back to 1995, and no, it isn't if you go a bit further back. If l take the performance of the dollar against the German mark, this is how it looks:

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Not the weakest dollar year, after all

Source: Robeco, Bloomberg

So 2017 may have been the dollar's weakest year since 1995, but if we're talking weak dollar years, 1986 and 1973 were much worse: in early September 1973, the dollar had depreciated by more than 25% (against the German mark) since January and in 1986, it was 15% lower over the same time period, as compared to 12.5% this year. Now you might argue that the first graph is looking at a trade-weighted dollar and that the data was not available until 1995, but that turns out not to be true: the trade-weighted series starts in 1974 and it, too, shows that 1986 was a worse year for the dollar than 2017.

Who actually looks at calendar years?

So 2017 hasn't been the worst year. Nevertheless, the fact that the dollar is having its third worst year of the last 45 years is rather exceptional: so surely something's going on? Well there is, if you focus on calendar years. But why would exchange rate movements follow the calendar? If the dollar began falling sometime in September and continued doing so until May, it would likely never show up in the above graph, despite the fact that the weakening trend might be much worse than we've seen this year.

If I ignore the calendar and list the top ten biggest year-on-year drops in the value of the dollar, 2017 is not (yet) one of them. If I focus only on the trade-weighted data, then the major dollar corrections look like this. The thick black line shows the dollar movements over the last 12 months.

The dollar hasn't fallen all that much over the last 12 months

Source: Robeco, Bloomberg

Perhaps it's a bit confusing that this last graph shows a drop of ‘just’ 5% in 2017, while the figure was quite a bit lower according to the previous two graphs. That's because we're looking at the movements over the last 12 months and from September to December 2016, the dollar first went up, and only started to fall after that. While it may be confusing, it might also explain things a little: perhaps you should view the dollar's fall in 2017 in the context of its rise in the last quarter of 2016. That was a time in which optimism about Trump's tax reforms prevailed and everyone was talking about reflation. But since then, suspiciously little has come of either one. Rather than dropping a lot in 2017, you might therefore say that it is a logical reaction to the unjustified rise back in 2016.

Last attempt

But what if we look at a period of eight months or more, in any year: wouldn't the decline in 2017 prove exceptional after all? And there you have it: if you look at the fall in the trade-weighted dollar over a period of more than eight months, as it stands now, 2017 has been the eighth worst year since 1974.

So I'd say, it is time to panic!

重要事項

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