Greenback's comeback may be over

Mutual funds and exchange traded funds that make dollar bets continued to turn in great returns last week despite concerns among some industry watchers that an eight-month U.S. dollar rally is winding down. The $177 million Rydex Strengthening Dollar 2X Strategy Fund (RYSDX), from Rydex Investments of Rockville, Md., was up 22.78% year-to-date as of last Thursday and 25.72% for the one-year period. The $36 million ProFunds Rising U.S. Dollar Investor Fund (RDPIX), from ProFund Advisors LLC of Bethesda, Md., was up 11.19% year-to-date and 12.36% for the one-year period. And the $614 million PowerShares DB U.S. Dollar Index Bullish ETF (UUP), from PowerShares Capital Management LLC of Wheaton, Ill., was up 11.94% year-to-date and 13.18% for the one-year period. There were signs last week, however, that the rally that started after the dollar bottomed March 17 was ending.

UP-AND-DOWN WEEK

The dollar fell sharply against most major currencies Tuesday but rebounded against the euro after the European Central Bank in Frankfurt, Germany, cut interest rates by half a percentage point in an attempt to stave off recession. The British pound made initial gains on the dollar after the Bank of England cut rates by 1.5 percentage points. The dollar, however, fell sharply again Friday after the U.S. Labor Department said more jobs were lost in October than forecast. During a time when there is so much uncertainty, such swings are to be expected, said Greg Salvaggio, vice president of trading at Tempus Consulting, a Washington-based currency advisory and trading firm. "We've been advising clients that there will be a lot of noise in the market," he said. "Over the next 30 to 60 days, the dollar will trade in very wide ranges without much of an underlying rationale." Those investors willing to ride the swings may be handsomely rewarded. "I think the dollar is going to have a rebirth," Mr. Salvaggio said. That's because the U.S. government is likely to favor a strong dollar, he said. The government has significant debt to finance and wars in Iraq and Afghanistan to pay for, Mr. Salvaggio said. To finance those needs, the United States must attract investment from overseas, and the only way to do that is to have a strong dollar, he said. Mr. Salvaggio pointed to another clue that the United States will pursue a strong-dollar policy: Former Federal Reserve Board Chairman Paul Volcker — one of President-elect Barack Obama's economic policy advisers and a potential Treasury secretary — is a proponent of that strategy. Given those forces, "a nice trade moving into next year [is] short the euro," Mr. Salvaggio said. The political winds appear to favor a strong dollar, agrees Marc Chandler, global head of currency strategy at Brown Brothers Harriman & Co. of New York. But there are other forces at work, he said. "I think there will be another leg up that will be driven by cyclical forces," Mr. Chandler said. During the dollar's long and painful decline — which began in 2002 — many domestic and foreign investors cut their exposure to U.S. dollars, but they are likely to increase their exposure going forward, moving closer to their benchmarks, he said. The argument for a strong dollar, however, isn't universally accepted. "The fundamentals of the dollar are lousy," said Peter Schiff, president and chief global strategist at Euro Pacific Capital Inc., a broker-dealer in Darien, Conn. The dollar's recent rise was the result of major financial players deleveraging risky trades, he said. They then bought dollars which they "erroneously" believed to be a safe haven, Mr. Schiff said, based on his opinion that "the election of Mr. Obama is very negative for the dollar." That is because — despite counsel from Mr. Volcker — the president-elect won't want to increase inflationary pressure by advocating for a strong dollar, Mr. Schiff said. Mr. Obama, however, will borrow in order to pay for his programs and that will have a negative effect on the dollar, Mr. Schiff said. "I think the decline in the dollar is going to be spectacular," he said. As a result, investors looking to hedge their dollar exposure may want to increase their exposure to foreign stocks, Mr. Schiff said. It's a mistake, however, to try and predict how the dollar will move based on what Mr. Obama and the Democrats in Congress might do, said Jack Crooks, president of Black Swan Capital, a Palm City, Fla.-based currency advisory and trading firm. "Sometimes we let personal political objectives get in the way of reality and we don't know what reality is yet," he said.

'MULTIYEAR BULL MARKET'

Politics aside, things look pretty good for the dollar, Mr. Crooks said. "We think the dollar is in a multiyear bull market," he said. One reason is that the U.S. market is in better shape than foreign markets in that the U.S. credit system is more "flexible," Mr. Crooks said. That, and the fact that it was the first to succumb to the credit crisis, will likely allow America to lead global markets back to financial health, he said. But foreign markets are more fundamentally sound than the U.S. markets, argues Mr. Schiff. Despite "bad loans" they made to the United States, most have "a sound economy that is still in place," he said. The same can't be said for the United States, Mr. Schiff said. Our economy is built on and sustained by borrowing, and that has to catch up with us at some point, he said. Such debate highlights why it's so difficult to make currency bets, said Jack Ablin, chief investment officer of Harris Private Bank, a unit of Harris Bankcorp Inc. of Chicago. It's one of the reasons investors shouldn't try to game the dollar by directly investing in it, he said. Mr. Ablin added that while he expects the U.S. dollar to weaken, he's not predicting catastrophe. "I don't see a plunging dollar," he said. E-mail David Hoffman at dhoffman@investmentnews.com.