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And will it last?

I have always liked trading currencies. As they have to be traded in pairs, they have a nice relative feature to them, so that you did not have to say this country is great, but this country is better than that one, and this should be reflected in the relative trends of the currency. In the globalised world of the 1980s onwards, big macro indicators like current account deficits, terms of trade and relative purchasing power worked pretty well. Personally I liked using Net International Investment Positions (NIIP), as it seemed to capture currency movements and investment flows. The problem is NIIP has been forecasting a weak dollar for 6 years now. In particular if we use the Dot Com bust as a model, we would have expected weakness in US stocks to be accompanied by a much weaker dollar. We have not seen that.

Even more surprising has been a move higher in commodity prices, and a stronger dollar. The Asian Dollar Index has been fairly strongly corelated to commodities for the last 25 years or, but this relationship has broken down.

Is there a way to square this circle? One way to think about things is that currencies reflect credit worthiness. When we look at Emerging Market Bond spread, we can see that spread widening coincided with Asian Dollar Index being weak, and vice versa.

While EMBI spreads probably means nothing to most investors (its not been a major market indicator for a long time now), we can look at that most modern of financial inventions - high yield ETFs. Singapore has an Asian USD High Yield ETF, while the US has a number of high yield ETFs The relative performance of these ETFs matches up with EMBI spreads. The Asian High Yield ETF has performed very poorly indeed.

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Capital Flows and Asset Markets
Russell Clark