Gold and the euro operate on different paths and with different triggers, more so, in more recent times, when the relative liquidity of both markets has changed dramatically in favour of the euro
Thus, it seems clear that gold and the euro operate on different paths and with different triggers, more so, in more recent times, when the relative liquidity of both markets has changed dramatically in favour of the euro.
Back in June this year, Stephen Roach, a very respected market analyst, forecast that the dollar would fall by around 35% over the next year or two. “The national savings rate is probably going to go deeper into negative territory than it has ever done for the United States or any leading economy in economic history,” he said. “At the same time, America is walking away from globalization and is focused on decoupling itself from the rest of the world … That’s a lethal combination.”
Roach believes that the huge, and growing, deficits being generated by the US government would lead to a crisis of confidence and the dollar would take a major hit; a likely corollary would be that the dollar’s hegemony over world trade, holdings of global FX reserves and, ultimately, financial markets, would be shaken.
When he made the forecast, the dollar index (DXY) was at 93.5; a decline of 35% would take DXY to around 60, which is substantially lower than its all-time low of under 70 reached in April 2011. This level seems incomprehensible to me. However, if it were simply seen as a forecast against the majors, the picture would be quite different. EUR-USD, for instance, was around 1.12 at the time of the forecast; a 35% appreciation would take it to a little north of 1.50, which while extravagant, is not unheard of. Indeed, the euro was even stronger than that (at about 1.60) in 2008, before it fell in a long and volatile decline to a low of 1.0450 in 2016.
So, is 1.50 to the euro likely in the next couple of years? Well, it is, of course, possible—anything is possible in the market—but to get a different perspective, it may be worth looking at gold. If the dollar were to go into the kind of swoon that Roach (and others) are forecasting, gold would certainly be a major beneficiary—a collapsing dollar and fear of inflation are the two main forces that drive gold into a frenzy.
Interestingly, gold had, in any case, been rising since the start of 2020, when it broke out of a long (seven-year) period over which it ranged between $1,150 and $1,350 an ounce, driven, perhaps, by the first news of the coronavirus (in December) or the continuing war of words between China and the US. It quickly climbed to about $1,600 and then, in July, a month or so after the bearish dollar forecasts, it suddenly spurted higher, breaking through $2,000 per ounce for the first time ever.
There was a lot of drama and, of course, the obligatory forecasts of $2,500 and more. And, of course, it has since subsided below the BIG number, and has recently fallen below $1,900.
Now, the last time that gold had threatened $2,000 (and beyond) was in 2011, when successive rounds of quantitative easing after the 2008-09 crisis flooded markets with so much liquidity that there was an apprehension that bonds would increasingly become worthless. Gold soared from a steady $800 or so (where it had languished through most of 2008), breaking through $1,000 an ounce in 2009 and then didn’t look back till it peaked around $1,890 in early 2011.
Interestingly, at the time gold started its move, the dollar index (DXY) was at an all-time low of 68.90, and, even though gold shot so much higher in the next few years, DXY did not fall any further—in fact, it hasn’t yet reached those levels again.
The euro on the other hand, which was at 1.45 in September 2008, fell sharply against the dollar following a very volatile path.
Thus, it seems clear that gold and the euro operate on different paths and with different triggers, more so, in more recent times, when the relative liquidity of both markets has changed dramatically in favour of the euro. Again, the substantially higher liquidity in FX markets today ($5.8 trillion per day versus about $3 trillion a day in 2008) would make very large moves much more difficult—indeed, this is confirmed by the fact that the three-year average of EUR-USD volatility (at 7.3%) is much lower than its 10-year average (9.3%).
All this tells me that, while dollar weakness is certainly on the cards, particularly given that it has been strong for so long, I don’t think it is going to collapse in a sad puddle, and, certainly not over the next “one or two years”. Thus, please don’t sit with long EUR exposures unhedged, which is never a good idea. On the other hand, an interesting trading idea may be to go long EUR and short gold.