The long-term picture

After having risen to 1.8309 against the CHF in October 2000 and again to 1.8226 in July 2001, the USD moved into a DOWN-trend to reach 1.5665 by September 2001 for a loss of 15%. From this day on, the USD staged a recovery which brought it back to 1.7229, a retracement of half of the loss suffered. From this level, another down-leg unfolded, down to 1.4335, again a loss of 16%. A lengthy consolidation followed from June to December of last year when the USD broke down again, going below the June low.

We believe that the trend clearly suggests further losses and that the level of 1.30 will eventually be tested.

The medium-term picture

The medium-term picture admirably depicts the break-down that occurred in December when the USD dropped out of the six months trading range that held from June to December.

What was support has become resistance and the best we can hope for is a pull-back towards the resistance zone. Further downward pressure is nevertheless likely.

The short-term picture

Short-term, we again notice the break down that happened in December and which lead the USD down to 1.38 in thin market trading at year-end. While the market digests this move down, we think that the 1.38 level will eventually give way among uncertainties regarding the Iraq-war.

Fundamental Considerations: The USD may be losing its Magic

• On the basis of a fundamental currency model, the CHF is still undervalued by around 20 %. The short-term goal during the coming two years is around 1.25 to 1.30 US dollars to the EUR. The flow of capital between the Eurozone and the USA for investments like equities, corporate bonds, government bonds and money-market securities will be reversed in the direction of Europe. It is believed that the projected relative development of fundamental evaluation factors - including growth potential, equity-market analysis, levels of return, inflation potential and budget deficits - is uniformly in favour of the old continent.



• Classic exchange-rate theories involving purchase-power parity and interest-rate parity also indicate a 15 to20 percent upward valuation of the EUR. Many players in the market still give these theories a great deal of credence.



• The high levels of the US current account deficit during the past 10 years have entailed a large number of foreign central banks piling up big US dollar reserves. Asian central banks could trigger a severe currency crisis if they substantially reduced dollar positions and purchased EUR with a view to diversifying their currency risks. The German Bundesbank is also still managing big US dollar reserves, a major proportion of which are likely to be sold during the next few years, because they have become largely superfluous since currency reserves have been transferred to the European Central Bank. The current situation recalls the position at the end of the Bretton Woods System in 1973when the world was also swamped with dollars due to the US trade deficit, and the central banks finally resorted to gold in order to spread currency risks.



• The key fundamental factors have been indicating a drastic devaluation of the American currency for years. However, for some months now investors have also been receiving clear signals based on chart data indicating that the dominance of the American dollar is now history. Taking a perspective of a few weeks, the US dollar could win back some ground, but long-term analyses show charts tracing out clear top formations for the Greenback.



• The influence of political statements on the currency markets is waning. Negative statements by the US Treasury Secretary Paul O'Neill and Federal Reserve Chief Alan Greenspan led to big markdowns in the common European currency during the past two years. But then the European Central Bank had a low standing. Their interest-rate decisions were subject to vehement criticism not least in media biased towards America, while praise was heaped on the measures taken by the Federal Open Market Committee. However, it is believed that the stabilizing policy of a relatively calm hand at the European Central Bank will have more success over the long term in financial markets than the frenetic policy of the American central bank with its repeated and abrupt changes in direction. The first indications of a change in sentiment are already perceptible. When Treasury Secretary O'Neill emphasized the policy of a strong dollar in April of this year, the currency markets failed to fall in line for the first time. The EUR gained more than a cent during the speech because a large number of players in the market obviously regarded this policy as untenable in the long-term.

Currency Trading

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Peter Zihlmann
www.pzim.com
forex@pzim.com

January 10, 2003