Currency analysts and economists point to a number of factors that sparked the bullishness in the U.S. currency since the beginning of 2005. One aspect of the market in late 2004 was that it was simply weighted down by dollar-short positions. Everyone who had wanted to get short had already done so, and there were no more dollar bears to fuel a continuation of the downtrend.
“People were all positioned in the same direction,” says Sean Callow, senior currency strategist at Westpac Institutional Bank. “[They] had loaded up on Euros and were expecting it to gain more. There was an overextension.”
The trade imbalance in the U.S., a major concern for many currency watchers in late 2004, still hasn’t gone away. The U.S. current account deficit widened in the first quarter of 2005 to $195 billion from $188.4 billion in the fourth quarter of 2004. But for now, forex traders have shifted their focus to other factors.
“We are a consuming nation,” says Brian Dolan, director of research at Gain Capital. “We produce very little in relation to what we consume and that’s not going to change. We will continue to consume at an excessive pace for the next six to nine months.
There is very little to suggest [the trade deficit] is going to be a critical factor for the forex market.”
“People in the market had been hearing about how the U.S. trade deficit is out of control and the only way to fix it is for the U.S. dollar to go down,” adds Jim Glassman, senior economist at J.P. Morgan Chase. “But [they] started to realize the reason the trade deficit was so large was because the rest of the world was under performing.”
Glassman downplayed concerns that China or other Asian central banks will stop buying U.S. Treasuries.
“They are buying to keep their currencies stable, so that Liz Claiborne and Wal-Mart will continue to view China as an attractive place to build apparel factories,” he says. “If China chose to funnel surplus dollars into the yen or some other currency, the renminbi would rise against the dollar and you are no longer attractive.”
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