The Exchange

Merk: Syria’s Implications for the U.S. Dollar

The Exchange

By Axel Merk

When the U.S. was on the brink of war with Syria, the greenback and ultra-safe Treasuries ought to have been in high demand. But they weren’t to the extent one might have expected. Is the war a non-event? Is the greenback not what it used to be? Or are Treasuries not really “safe”?

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Treasuries have had a rough time of late. When House Speaker John Boehner first endorsed the President’s call for military action in Syria, instead of rallying, bonds were unable to dig out of their hole for the day. Maybe Treasuries are more reacting to the likelihood of “Fed tapering” than the implications of what could be perceived as limited military action.

In contrast, gold, the shiny metal often popular during times of crisis, did rally on the news. And the euro ticked up, too. Indeed, the euro has had numerous good days when the odds of military intervention increased and declined as the threat of an imminent strike receded. Could it be that the ugly duckling (the euro) is shaping up to be a competitor to the cleanest of the dirty shirts (the U.S. dollar)?

Still a safe haven?

These days, the dollar’s attractiveness as a “safe haven” may have a lot more to do with liquidity than quality. When investors scramble to get out of so-called risky assets, what they often mean is that money is running for the exit, usually a small exit. The perceived beauty about U.S. Treasury markets is that they are deep and liquid, a positive side effect of being the world’s biggest borrower.

It is possible to gauge whether the perceived safety of Treasuries is changing. One way is to correlate price movements to that of the most widely used fear index, the VIX (the VIX is the ticker symbol of the Chicago Board Options Exchange Market Volatility Index, a popular measure of implied volatility of the S&P 500 index). So far, Treasuries and the greenback still pass that test.

Consider the yen

However, that’s no guarantee that this will always be the case. If one applies that same test to the yen, the safe haven status of the yen has eroded. During the peak of the financial crisis in 2008, the yen was the best preforming currency, far outperforming the U.S. dollar. But ever since then, the yen appears less and less of a beneficiary whenever a crisis flares up (for details, read “Is the Yen doomed?”).

Naysayers will dispute this conclusion, pointing to those occasions when the yen still sometimes rallies in times of turmoil. Similarly, should the status of the U.S. dollar as a safe haven continue to erode, there will be plenty of pundits arguing otherwise. We think of those pundits as frogs enjoying the gradually heating water they are swimming in.

Only history will be able to judge one day when the days of the U.S. as a safe haven are over. In the meantime, however, it is most noteworthy that the euro has climbed back from the brink. Indeed, the euro is the best performing major currency over the past 12 months, handily beating the “cleanest of the dirty shirts” (the greenback). As such, we can’t help but notice that the euro has increasingly been benefiting from crisis talk elsewhere in the world – be that in emerging markets or Syria.

Axel Merk is President and CIO of Merk Investments in Palo Alto, Calif. Follow him on Twitter or sign up to his free newsletter.

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