The Relationship of The Dollar and The Stock Market

cisco stock earningsThere continues to be an ongoing debate on the future of the dollar. In most cases, a decreasing value like we've seen in the dollar this past year (down about 13%), would be quite alarming for most countries, especially when considering our current economic crisis. However, government officials, at this point, remain not worried about the recent downfall of the dollar and feel that its recent move is due to the spike we saw last year during the peak of the economic turmoil.

One thing is for sure, there exists an almost perfect inverse relationship between the value of the dollar and the performance of the stock market (see graph below). Last year, when fears of massive bank failure was on investor's minds, the dollar spiked in value, it being the "safe investment" at the time. Bonds also found strength, as less riskier vehicles became appealing. However, due to the large bounce we've seen in markets recently, the exact opposite has occurred. Investors are returning to riskier investments and the dollar and bonds are getting left behind.

So far, the government is not too worried, because they are still able to sell their debt at this point. In addition to that, most smart economists know that are first big obstacle facing the US economy at this point is deflation, not inflation. Although inflation remains a critical concern for our economy, it is likely to not become a big problem until 2011-2012. A weakening dollar helps to mask a deflationary down spiral, which in most cases would spawn a dollar rally.

dollar stock comparison
For the most part, government officials don't mind the weakening dollar, because as we see from the graph, the stock market capitalizes from it. At this point, a strong dollar would most likely have a negative effect on market indexes. I do not see the dollar weakening much further and quite frankly, using the currency as "bait" is down right risky. All it would take is a "black swan" event to send the dollar into a whirlwind.

The Treasury is finding less and less buyers for US debt and markets continue to see resistance at this point. Even today, following a push in markets for most of the day today, we saw a rather big sell off to close the day, having the Dow only close up 30 points. The Fed's statements today saying that the outlook is good is rubbish. If this is true, why do interest rates remain at 0%. They're job is to keep peace and order in the economy and unfortunately, at this point, the best way to do that is by smudging the facts.

CISCO reported a "favorable" earnings report today after close, however, they were still able to lose over a billion dollars in revenues compared to the prior year. But, as we have seen with many companies before, investors are not interested in that. Companies inability to turn around falling profits will eventually lead to their demise. An economist "expectations", will do nothing for them. That is why, for me, it is important to compare earnings on an annual basis to get the big picture of the company's performance.

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Markets are continuing to see a lot of resistance at this point and heading into unemployment numbers, that can't be good. Now I do feel like we will see better numbers than we have in times past, but the numbers will most likely remain very dismal. There is definitely more selling pressure now then there has been, and I expect to see the second crash hit markets very shortly. Happy Trading.



    The dolar will continue to decline long term.