MHFX Currency Corner
Free Forex News & Commentary
Edited by Tony Carrion

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Recent Trading Observations (As of 6/8/08)

For those who watch stocks along with the currency market, you may have noticed an interesting trend that has emerged of late.  Historically, the U.S. Dollar has generally traded in a non-correlated fashion to U.S. stocks.  In fact, the correlation between the USD and stock movements has tended to be negatively correlated.  Since stocks launched what we regard as the start of a new bear market last October, we have observed that not only have the movements between stocks and the USD become more correlated, but that over the short-term, the correlation itself has turned positive.

We compared correlations for U.S. stocks and the USD for the period of January 2005 to present, and for October 2007 to present.  The benchmarks used were the Dow-Wilshire 5000 Index (DWC) and the trade-weighted US Dollar Index (USDX). While from just simple observation some correlation appeared to be taking place, we were struck by the extent of it.

DWC/USDX                       Correlation
Jan 05 - June 08                    -0.55
Oct 07 - June 08                    0.68

Note that in correlation analysis, the correlation coefficient ranges between -1 and +1. The more positive the correlation, the more the coefficient moves towards +1.  Conversely, the more negative the correlation, the more the coefficient moves towards -1.  As we see in the above data, from January 2005 to June 2008, the correlation has remained negative as it has historically - but with a strong period of correlation that has occurred since October 2007.  While the timeframes under study do have an influence, we were surprised to see how strong the correlation became over just the past seven months.  To wit, the last significant low for the USDX occurred on the same day as the last significant low for stocks, March 17, 2008.

We also looked at correlations between U.S. stocks and other assets to see if any similar trends were evident, and note the results of our analysis below.

DWC/Gold                        Correlation
Jan 05 - June 08                    0.66
Oct 07 - June 08                   -0.90

DWC/Crude Oil                  Correlation
Jan 05 - June 08                    0.42
Oct 07 - June 08                   -0.42

DWC/10-Year Notes           Correlation
Jan 05 - June 08                   -0.12
Oct 07 - June 08                   -0.93

We noted sometime back that gold and U.S. stocks were showing more correlation in recent years than had been the case historically.  As we see above, the 2005-2008 correlation has been more positive, but the shorter-term period since the launch of the bear market in stocks shows far less correlation, nearly reaching -1.  Unlike the example we noted for the USDX, March 17th was the day gold prices topped $1,000 an ounce, before slumping into a multi-week consolidation.  When comparing correlations between stocks and crude oil prices, we see a virtual polarity for the longer and short-term timeframes.  Finally, in comparing stocks to 10-Year Note prices over the two timeframes, the correlation moves from negative to extremely negative.  The significance here is that yields on the 10-Year Note move inversely to price, suggesting a stronger correlation is occurring between rising yields (which are used as a benchmark for adjusting longer-term interest rates) and stocks.  In fact, the correlation for the two timeframes moves from +0.18 to +0.90.  For those who believe Fed rate cuts are supporting a stock recovery, this data would suggest otherwise.

As a final observation, the correlation between stocks and the USD isn't limited to only those traded in the United States.  A comparison between the USDX and The World Stock Index (MSCI) reveals the following:

MSCI/USDX                      Correlation
Jan 05 - June 08                   -0.66
Oct 07 - June 08                   0.74

Constituents of The World Stock Index include major stock exchanges around the globe.  It is rather curious that even with stronger performances by currencies of other major economies against the USD, a similar trend emerges as when we compare the data to just US stocks alone.  Perhaps this shouldn't be surprising, in as much as stock markets around the world have been behaving similarly since last October.  Our view is that the trends point to the increasingly global nature of market trading, and as such, a similar underlying market psychology.  Lately, this appears to be true as much for stocks, as it is for the U.S. Dollar.  

Currency Pair Sentiment vs. USD
From the most recent Commitments of Traders (COT) Data

Unweighted Major Currency Average (UMCA) & Currency Pair Strength
(Our Proprietary Unweighted Index of US Dollar Performance)

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