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The dollar has prepared a trap? According to the theory of "dollar smile", reducing the USD index is no more than a correction


Unlike previous recessions, the current is not characterized by the fact that consumers and businesses are not willing to spend. They are not able to spend. It's more like a hurricane, which covers a certain area, and causing serious damage to the region's economy. The latter is then rapidly reduced to background disaster relief. Coronavirus stunned the world in the best case a few months, and the longer the pandemic, the more likely that the temporary difficulties develop into long-lasting problems. 



A typical example is China, which stands on the threshold of victory over the epidemic. In March, the business activity in China manufacturing sector rose from 35.7 to 52. Figures above 50 indicate expansion. The economy is starting to recover, but the People's Bank continues to lower interest rates in order to maintain not departed from the shock of coronavirus demand. PBOC reduced cost 7-day reverse repurchase from 2.4% to 2.2%, and introduced into the banking system 50 billion yuan ($ 7.1 billion). In contrast to the Fed, he can afford it: rates have far to fall.  


Dynamics of China's business activity


Source: Bloomberg.


Dynamics of the People's Bank Rates


Source: Bloomberg.

Victory over the pandemic and the States as to the moon, and the US stock indexes begin to behave as if a hurricane was in the past. The recession is deep, but not for long! What if it is not? What if things start to develop on the model of 2008, when the US economy took years to recover? According to ex-Fed chief Janet Yellen, excessive support of the corporate sector is the mistake. Companies zakreditovany and so, they can use the cheap money to buy back shares or payment of dividends. As a result, increase the risk of defaults, which will increase the timing of economic recovery. 

If we turn to the experience of 12-year-old, then due to the high demand for safe-haven US dollar from March to November 2008 rose by 24%. Reducing Fed's federal funds rate and the launch of QE by $ 700 billion caused him to withdraw by December. However, prior to March 2009 the USD index has grown by 15%. If the uncertainty in the recession is prolonged, hand spontaneously drawn to the green paper. Similar greenbacks behavior is fully consistent with the theory of "dollar smile". USD index rally gives way to fall to the bottom of a smile on the background of aggressive Fed monetary expansion, but then the "American" is growing again, as investors believe that the US economy recover faster than global GDP. 


In my opinion, the theory of "dollar smile" there is a flaw. In 2020 thanks to China global GDP could rise from its knees faster than its American counterpart. Nevertheless, investors are overly enthusiastic buying stocks because they believe that in the near future, statistics on the US is not so terrible (time to be afraid yet to come), and S & P 500 will be able to withstand it. Interest in the greenback is able to flare up again, which creates prerequisites for the EUR / USD sales in the case of a breakthrough supports at 1,087 and 1,084. However, before that happens, the couple may at some time enter into a state of consolidation.


Source analyst LiteForex



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