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Brother, Can You Spare A Euro?

Wed, Feb 13 2008, 09:47 GMT
by Ed Ponsi

Online Trading Academy

We know that the weak US Dollar has caused tourism from overseas to explode, and while taking a walk down Manhattan's Fifth Avenue this past holiday season, you could hear many shoppers speaking French, German, and other European languages. The huge influx of European tourists into the US has led to an interesting phenomenon – some stores in New York City are now accepting payment for goods in Euros. It was widely reported last week that at least two stores in the East Village are accepting Euros for payment in lieu of US Dollars, and one merchant was quoted as saying he would also accept British Pounds and Canadian Dollars. The store owners simply take the Euros to the bank and exchange them for US Dollars, although one said he would hold on to them and then spend them in Europe. This could be taken as yet another sign that the US Dollar is losing its place as the world's reserve currency.

The US Dollar is still the only currency that is accepted nearly everywhere in the world, but the New York Times reported last week that the Dollar would no longer be accepted as payment to enter the famed Taj Mahal. An edict from the Indian Ministry of Culture has ordered a halt to the acceptance of the greenback as payment to access the storied monument and other famous Indian tourist destinations. The Times also named Vietnam and Peru as other examples of destinations that are now less enthusiastic toward the greenback.

Does that make these places anti-American? Not at all. When the buck was strong, businesses in these countries couldn't get enough of the US currency, often preferring payment in USD in lieu of their home currencies. The fault here lies not in the reaction of others to the currency, but within the currency itself. We in the US take it for granted that the Dollar is the dominant currency of the world, but this was not always the case – the Great Britain Pound once held the title as the world's reserve currency. The US Dollar was not always the top currency, and it will not remain the top currency in the world if we continue to allow it to fall. The weak USD is not something that just "happens", it is a direct result of our monetary and debt policies. We print money out of thin air, and then we wonder why it cannot maintain its value. As US Presidential candidate Ron Paul is fond of saying, "The money has to come from somewhere". If you create money without creating value, you are simply printing paper, and you are lessening the value of every outstanding dollar. Many other countries have decided they've had enough of it, and their reaction is not the problem, it is just a symptom of the problem.

Questions of the Week

Q) Hello Ed, I am enjoying reading your book. I would like to open an account and keep the money in Euro until I am ready to trade (After I take your Forex class). Where do you think I can open an account like that?

Ed Ponsi) Thank you for your question. It might not be a bad idea to hedge at least part of your portfolio against USD weakness. Unfortunately, you can't place USD in a Forex account and then take out Euros; this is because spot trades are "non-deliverable" and it is also prohibited by money laundering statutes. While US residents can't hold Euros or any currency other than the US Dollar in their bank accounts, there are several options that you can use to protect yourself from a weak dollar. First, you can open a CD that is denominated in Euros; that way, if the Euro gains vs. the USD, you'll benefit from the appreciation as well as the interest you'll receive. On the flip side, if the Euro falls vs. USD, you could lose on the deal. Euro-denominated CDs are available at several US banks. For greater diversification, there are also CDs that value the US Dollar vs. a basket of currencies.

Another way to hedge your portfolio is by buying stocks of companies that benefit from the weak dollar. Export-driven companies based in the US have generally outperformed the market as a whole. For example, Altria Group (symbol MO) has performed rather well despite the recent market turmoil. The stock may dip upon its removal from the Dow Jones Industrial Average (announced February 11), but there can be no doubt that this company has benefitted from the weak US Dollar (see figure 1).

Figure 1: Altria stock has benefited from growth in exports. Source: Stockcharts.com

Last but not least, there is always gold. Gold is considered the ultimate hedge against inflation, and the ultimate store of value. Because gold is priced in US Dollars, an inverse relationship exists between the two; in other words, when the USD Dollar is falling, the price of gold tends to rise, and vice versa. Because of this and other factors, gold has performed very well for the past several years. The dollar's five-year plunge has been accompanied by a rally in gold and other precious metals (see figure 2).

Figure 2: Gold has rallied over the past five years, as the USD fell. Source: Kitco.com

Q) Ed, Thank you very much for your articles! I always learn something from every one that you put out! Your latest article discussed the AUD/USD pair and the current interest rates of each country. As I understand it, there is currently a 4% differential. Would I be correct in my assumption that if a person with a USD denominated account, purchased a single contract of AUD/USD that he would earn approximately $10.96 AUD interest each day (100,000 x 4% = 4000 / 365 = 10.96) just by holding/carrying this trade? Thanks again and keep up the great work!!
Ed Ponsi) Thank you for your question. You're actually very close to the correct answer; you just need to add one more step. Using your example, we still have to account for the fact that Australian Dollars and US Dollars are not equal in value. The way to do that is to take your result of $10.96 and multiply it by the current AUD/USD exchange rate. As of this writing, the current AUD/USD exchange rate is about .8975, so if we multiply that by $10.96, you're result is going to be about $9.80. That's $9.80 per lot, per day, so if you hold this position for a long time, you could certainly collect a substantial amount of interest.
But wait! If you check your account statement, in many cases you'll see that the market maker isn't giving you the entire $9.80. Most of them shave a little off the top when they are paying interest, which is another source of income for Forex brokers. Still, you should get something close to $9.80 per day – the actual amount will vary from one broker to the next. Stock traders have to wait three months for a dividend, so it's nice to trade an instrument that allows you to collect interest every day of the week. That's one of the reasons why hedge funds and banks are such big players in the currency markets.
Have a question about Forex trading? Send an email to eponsi@tradingacademy.com and we may use your question in an upcoming newsletter. Until next time, best of luck to you in trading.

Published on  Wed, Feb 13 2008, 10:06 GMT