Dollar drop overshadows markets--Leading strategists expect further falls for currency

<a href=cbs.marketwatch.com>THOM CALANDRA'S STOCKWATCH By Thom Calandra, CBS.MarketWatch.com Last Update: 10:31 AM ET May 12, 2003

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The American dollar is now at its lowest point since January 1999, its euro nemesis rising as high as $1.1626 Monday morning. The Australian and New Zealand dollars notched nearly four-year highs against the U.S. dollar as well.

Gold, which benefits from dollar weakness, rose above $350 an ounce for the first time since March 12. See: Euro riding high.

U.S. Treasury Secretary John Snow "has been all over the heartland and now all over talk-TV, saying 'strong dollar, best interests' out of one side of his mouth and 'the market sets rates competitively' out of the other.' This time he is able to add that exports are getting

stronger because the dollar is weak," notes longtime currency strategist Barbara Rockefeller at Rockefeller Treasury Services.

"This is where the administration wanted to be all along and now they can admit it, especially given the Fed's seal of approval last week to devaluation-inspired inflation," says Rockefeller, whose work on currencies is among the best of U.S. strategists. "Now the only issue is how long it takes for the new perspective to reach the majority of interested parties."

Rockefeller says Wall Street issuers of stock and bonds have the most to lose as the dollar slides (more than 20 percent this year alone against the euro). "The stock boys love to scare themselves with panic stories and the crashing dollar offers a good opportunity. Corporate bond issuers can't be too thrilled, either. They have to offer a premium," she says from her Connecticut headquarters. "But before the U.S. says or does anything to rebalance the outlook, we will probably see both Japanese and European intervention."

The dollar's continued slide this year will embolden some currency speculators, says Chuck Butler, chief strategist at Everbank.com. "Liberties are going to be taken with the dollar now, whenever traders feel feisty enough to do so," Butler said about the currency markets. "They don't have the fear of a strong dollar policy as they once did."

Butler, whose Everbank.com in St. Louis allows individuals to shuttle dollars into foreign-denominated certificates of deposit, has been forecasting the dollar's decline for at least the past two years. His thesis is that investors are seeking the higher yields available on cash deposits in currencies other than the dollar. Market yields on U.S. Treasury bonds Monday morning were falling to historic lows, with the 10-year yield below 3.6 percent.

The dollar still has a way to go -- down, says Butler. "I'm still concerned about the speed euro traders are marking up the currency, but until I see any signs of a pullback," he says, "so you just go with the flow."

For now, stock market investors are paying little attention to the dollar's continuing cascade. Most must believe, as the Treasury secretary indicated, that cheaper dollars will help American exporters of goods and services, such as McDonald's (MCD: news, chart, profile) and Gillette (G: news, chart, profile), in their overseas businesses.

The stock market, says Richard Dickson at pioneering analytics firm Lowry's Reports, "has developed a pattern of ignoring signs of short-term weakness, so at this point we would give the benefit of the doubt to the bulls. "Until selling shows definite signs of picking up ... the market is unlikely to suffer anything more than an occasional short-term setback."

One wild card is oil. Higher oil prices could derail any economic recovery that is in the cards for this year. Supply constraints could boost oil prices just as the summer driving season heads our way.

"What's the bottom line? For the oil markets, it means oil in the $25 to $30 per barrel range for the near term," says Joseph Duarte, Dallas fund manager and financial author. "But if circumstances worsen in the Middle East, we could see much higher prices for some time. For investors and traders, it suggests a potential profit opportunity in the energy sector."

Duarte points to "razor-thin storage margins" of oil in U.S. markets, as well as declining oil-rig counts across the world as signs supply troubles may be just ahead. "Oil companies are doing everything that they can to control refinery capacity. And with no chance for any kind of a swing producer appearing (such as Nigeria or Venezuela), any kind of further supply disruption, either intentional or accidental with or without an increase in demand, would send oil prices rising significantly once again," he says.

Duarte, of River Willow Capital Management, uses shares of oil-services firm Lonestar Technologies (LSS: news, chart, profile) as his leading indicator for where oil prices are headed. Lonestar shares are up almost 30 percent since April 1. "The pieces for another round of supply squeezing are certainly in place, and the oil stocks are clearly forecasting that the dynamics of the marketplace have been altered significantly," Duarte says about the flow of oil through Middle East ports. "Lonestar Technologies is predicting higher prices for oil, just as the oil market fundamentals are dramatically pointing the same way."

As for gold, Wall Street and Main Street strategists increasingly see the metal eclipsing its $389 an ounce high from earlier this year as the dollar declines. "The world is dangerously awash with U.S. dollars. More than three quarters of global central bank reserves are in U.S. dollars," notes Frank Giustra of Endeavour Capital, a Canadian merchant banker. "The downward trend in the dollar began two years ago and is very much intact. Although it has fallen approximately 25 percent against the U.S. dollar index, the dollar is still overvalued and will most likely fall a further 15 percent in the next two years alone."

Giustra, former president of mining financier Yorkton Securities, says gold investors will benefit. "As gold is priced in U.S. dollars, the dollar's decline will make it cheaper to purchase in other currency terms and less attractive for non-U.S. gold producers to produce," says Giustra, writing for International Speculator. "More importantly, if its imperial status is severely challenged and no other currency emerges as a viable alternative, then gold will regain its historical status as the currency of last resort and the ultimate store of wealth."

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