Save for those who believe in the infamous Mayan end-of-the-world prophecy, y’all are probably excited to see what 2012 has to bring. But before we get to that, let’s take a look back on how the dollar performed in the year that was. Shall we?
Losing Its Safe Haven Mojo
Contrary to what many dollar bulls hoped for, the risk aversion vibes that we got towards the end of 2010 (which highlighted the currency’s safe haven status) didn’t carry over into the new year. Instead, the market saw a hefty dose of risk appetite. Improvements in the euro zone debt crisis such as talks of increasing the EFSF and the establishment of the ESM had investors buying higher-yielding currencies like they were iPad 2′s for half-off!
Adding to the Dollar downslide was the Fed’s statement that QE2 will not end earlier than scheduled and that they won’t be hiking rates anytime soon. During his testimony to the Senate Banking Committee, Fed Reserve Chairman Ben Bernanke said that the Fed was the least excited amongst the G10 central banks to raise rates. To put that in to context, this was when its counterparts were already talking about tightening monetary policy.
And as if that wasn’t enough to make the dollar completely unappealing, policymakers at Washington almost caused the government to shut down when they delayed hiking the U.S. debt ceiling. Tsk, tsk…
The End of QE2
But as they say, all things come to an end. We finally started to see some lovin’ for the dollar in the second quarter of the year. If you took my word for it, you probably would’ve made a lot of money!
This was when the focus shifted to the Fed exiting its stimulus program, QE2, and when Big Ben made it up to dollar bulls by silencing talks of QE3. According to the FOMC statement, in order for QE3 to happen, dramatic signs of slowing growth would have to materialize first. Ha! It was like saying, “We’ll pull the trigger once Big Ben grows his hair!”
Politics Getting In the Way
However, the dollar’s journey towards the bulls’ turf wasn’t going to be a smooth ride. In the middle of the year, it got stuck in a consolidation. It seems like the political mess happening in the U.S. Senate somehow clouded the dollar’s safe haven appeal.
If you remember, this was the time when Democrats and Republicans wrangled for days on the country’s debt reduction plan. In fact, the debates got so intense that the S&P had to downgrade the U.S. credit rating from AAA to AA+!
Luckily for the dollar, the euro zone had its share of problems too, which took their toll on global market sentiment. Consequently, this allowed the USDX to linger around the 75.000 handle as traders sought refuge from European sovereign debt risk.
Operation Twist Gets Dollar Bulls Dancing
The dollar was finally able to wriggle out of consolidation when the Fed finally announced Operation Twist. As it turns out, the stimulus program was less dire than the dreaded QE3. Therefore, it was seen as positive news by markets.
From then on, it appears that the dollar’s fate on the charts has been primarily dictated by market sentiment. It faltered a little bit for a few weeks when risk appetite picked up on optimism that EZ leaders would come up with a solution to their debt worries. However, the risk rally didn’t last long as the ECB cut rates, European bond yields soared, and EZ leaders failed to come up with concrete plans to tackle the crisis.
The Fed’s newfound optimism about the economy has also helped the dollar climb back up from where it fell at the beginning of 2011. If you’ve been reading Pip Diddy’s daily forex fundamentals, you know that positive reports from the U.S. have gotten Bernanke and his crew giddy about the U.S. economy.
So what’s in store for the dollar in 2012? Hmmm, I’m no Pipstradamus, but I think that it would largely depend on whether or not the country’s recovery is strong enough to cancel the need for QE3. Sure, the U.S. economy looks promising now. However, we have to ask ourselves if it is forrealz or nothing more than a seasonal trend. I guess we’ll all just have to wait and see.