Thursday, October 9, 2008

Credit Crunch = Currency Crunch?

I wrote this on September 29th (Cdn dollar near 96 cents; today at 87 cents):

One note about the Canadian dollar: While I have a lot of Canadian dollar cash (mostly in the CDIC insured Altamira Cashperformer), I am very bearish on the loonie here. Back in April, I saw the Canadian dollar heading to 92 to 94 cents (it was at 98 at the time). We hit 92ish 2 weeks ago and since then, we have bounced all the way back to 97! I have been buying US dollars this week.

My reasoning: This is an oversold bounce for the Canadian dollar as oil bounces and as the perception is that US finances are in shambles (they are). However, in a credit crunch, debt gets extinguished and much of the debt out there is denominated in US dollars and was used to buy real estate and lever up in commodities. As most asset classes fall (a global margin call), the US dollar will rise, as it did since mid July (while gold & commodities sold off).

I hold some US cash as I think that if we take out 92 cents, we could eventually settle at 85 cents, if we get a market meltdown this fall.

Here is a portion email that I wrote last night to a very wise friend on currencies. I have excerpted the key passage:

--- On Wed, 10/8/08, Adil Burney wrote:

From: Adil Burney
Subject: Currency crunch?
To:
Date: Wednesday, October 8, 2008, 11:06 PM

If you get a chance, look in detail at the Yen chart.

The Australian dollar (which is the symbol of the carry trade vs the yen as it had about 7% interest rates) is getting smashed (see at bottom of chart). Also, look at euro/yen.

Remembering that currency markets are bigger than the stock market, it looks as if there is serious unwinding of that trade. The Brazilian real, peso etc... are all getting killed. The Canadian dollar is suffering to a lesser extent.

This all makes sense and if you remember your lessons from currency crisis of the 90s, the money flows out of these currencies in a hurry. It is doing that now. You have to wonder if we have a currency crisis coming up again on top of the credit crunch...


Conclusion: The unthinkable is now thinkable, as PIMCO's Mohamed El-Erian has said recently. Therefore, while I predicted a mid 80 cent loonie in a market meltdown, I now don't know. We could stop here or this could morph into a true currency crisis whereby some countries will almost be forced to RAISE interest rates in this environment. Since they really can't here, I am not going to rule out a Canadian dollar at 80 cents or below. This is NOT A PREDICTION only something that could happen.

I don't want you the reader to think that I am always right. I also want to point you to my other post today where I 'fess up to mistakes I have made recently.

All the recent currency crises happened in relatively calm stock markets.

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