‘Dollar shortage’ and Trump trade protectionism could drive DXY to 130, influential investor says
Up, up, up—the dollar has soared almost 30% since its 2014 low, but the party is really only getting started, according to influential investor Raoul Pal.
Defying critics who say the greenback is near its peak, the Goldman Sachs alum who successfully predicted the financial crisis in 2008 says the rally could go on for another three to four years, taking a key dollar index another 30% higher.
“Looking at the shortfall of dollars and what is happening in the world right now, I think it could probably rally something like 75% from its low, so that’s still a long way from here. My personal target for the last six year has been the euro goes to 75 cents against the dollar and the yen at 200,” he said at a conference in London on Tuesday.
For the ICE Dollar Index DXY, +0.37% Pal predicts a jump to 130, up from the 102 it currently trades at. The greenback embarked on its yearslong rally in May 2014—shortly before former Federal Reserve Chairman Ben Bernanke sparked the so-called taper tantrum—when it traded just shy of 79.
Pal bases his ultra-bullish dollar forecast on experiences from previous bull markets, rising U.S. interest rates, massive dollar debt abroad and President-elect Donald Trump’s protectionist trade agenda. So basically what he calls a perfect storm “where probability is widely on our side, so that almost whatever the economic outcome, the dollar goes higher.”
History as a guide
The greenback has only really had two bull markets since it was allowed to float freely in the 1970s. In the 1980s, when it almost doubled, and in the 90s when it jumped around 50%.
“This time, the dollar is only up 29%, so that’s the smallest dollar bull market in history if it were to stop there,” said Pal, who also founded Global Macro Investor.
“Dollar bull markets go on for a long time, five to six years and they power ahead. And the corrections are maximum 10%, usually less.”
Back in the early 1980s, the U.S. currency soared as the Fed started to aggressively raise interest rates to keep inflation under control. As a result of the higher rates, foreign capital flowed into the U.S. and accelerated the dollar strength. However, the strong currency was hard on U.S. exporters and the rally ultimately ended with the Plaza Accord.
In the mid-90s, the greenback was back in favor as Asian governments started to borrow dollars in massive quantities to fund projects to propel their economies onto the world stage. The upswing came to an end with the bursting of the tech bubble and the 9/11 terrorist attack shortly after that pulled the U.S. into a recession.
Repaying $10 trillion of dollar debt
But then in 2014, the dollar regained its vigor and has risen almost nonstop since then.
A key reason it will continue higher is a significant dollar shortage in the global financial system that comes as foreigners try to pay off their debt, Pal explained. The Bank for International Settlements estimates that almost $10 trillion of U.S. debt is held outside the U.S. and the faster the greenback rises, the greater is the incentive to get rid of the loans that become increasingly expensive to service and pay off.
And that requires lots of dollars.
“There are so few dollars in the world that people are scrambling for dollars. It’s the big story that no one is talking about,” Pal said.
“$10 trillion dollars is the largest position ever seen in financial markets in any one instrument, it’s enormous. It dwarfs anything else as a speculative position,” he added. “So once those guys truly start to close out, and they are starting to do it, nothing will stop that the dollar going higher.”
The Trump boost
Adding to Pal’s already bullish argument, is Trump’s potential trade policies. The president-elect has threatened to impose big tariffs on imported goods from, for example, China and Mexico in a bid to spur U.S. manufacturing and create jobs. He’s also pledged to repatriate the billions of dollars in cash American companies hold overseas.
By creating a world where there’ll be less demand for U.S. goods and less foreign demand for U.S. products, the amount of dollars floating around will decline as a consequence, Pal argued. That’s adding to the dollar-shortage issue and could accelerate the greenback rally.
“Protectionism is going to do the absolute opposite of what Trump thinks. He thinks it’s going to stimulate the U.S. economy, stimulate demand within the corporate sector and create jobs and opportunities. What he is likely to do is destroy corporate profits as the dollar screams higher,” Pal said. “Big exporters are going to get murdered by this.”
There is one caveat though. The new president could dial down he’s protectionist agenda, in which case Pal says the dollar rally could come to a halt.
“But I think, at least in the next five to six months, chances of the dollar going higher are very high indeed,” he said.
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