Animal Spirits Rising

There are strange things afoot in the big economic picture, with important implications for all investors: Money is pouring into the United States, boosting the US dollar beyond all expectations yet gold is rallying in defiance of its usual relationship with the greenback, the yen is seriously undervalued and international stockmarkets are surging.

And they are all related, according to Macquarie Securities’ international economist, Mark Tierney. The immediate bottom line for investors is a new wave of confidence in equity markets as investors shake off the fears that caused last month’s correction.

Indeed, there is a self-reinforcing aspect to this recovery. The animal spirits are made all the bolder by finding that oil prices, hurricanes and rising US interest rates haven’t damaged them after all.

The swings and roundabouts of foreign exchange markets are too unpredictable for most retail-level investors to worry about, yet they can provide important sign posts to investment trends. That’s certainly been happening in recent weeks. Mark Tierney’s background in forex keeps him attuned to those winds when many economists simply find it all too hard '” or have been too burned by making incorrect forecasts.

As Tierney explains in the accompanying video interview, the US dollar’s strength is an indication of stronger investment confidence in global markets. Figures last week showed foreign investors sank an incredible $US101.9 billion in the United States in September, up from $US89 billion in August.

That capital flow is behind the greenback’s rally, a rally that has weakened our dollar a little but not as much as might have been expected. Meanwhile, gold and copper are pushing ever higher in defiance of the greenback’s strength, something that would normally weaken metals prices.

Tierney argues that the surging confidence behind those movements is a more potent force than the simple “money is cheap” factor as central banks pushed liquidity.

This means the international imbalances that have been concerning central bankers and investors alike are continuing to build.

Coincidentally, Friday’s global investment strategy by BT Financial Group economist Tracey McNaughton also picks up on the bullish implications for Australia in the greenback rally. McNaughton writes:

One of the biggest losing bets to take in financial markets recently is the one taken against the US dollar. Just ask Warren Buffett. He took out a huge short position against the greenback only to find he had to wind it back after suffering too much pain. The US dollar has continued to strengthen this week and is now hovering around two-year highs against the yen and euro and is at a 12-month high against the Aussie dollar. While a stronger US dollar is confounding market pundits, it is helping ensure the golden run of Australian miners continues.

At some stage, these ever-building imbalances will correct, but that day of reckoning keeps receding.