Sunday, February 13, 2011

The Inter-relatioinshp of Interest Rates, the Dollar and Commodities

Let's start with these relationships

1.) The dollar's value increases when interest rates increase. The reason for this relationship is currency traders -- after purchasing a currency -- park their holdings in the new currency in an interest bearing account. While U.S. short term rates are still some of the lowest in the developed world, long-term rates are among the highest.

2.) The dollar's value increases as the economy improves. The reason for this is a growing economy attracts foreign investment -- outside investors want to invest in a winner. In addition, consider this story for the WSJ:

A newly resilient economy is poised to expand this year at its fastest pace since 2003, thanks in part to brisk spending by consumers and businesses.

In a new Wall Street Journal survey, many economists ratcheted up their growth forecasts because of recent reports suggesting a greater willingness to spend.

3.) It's also important to note the dollar is still a store of value in the commodities market and a safe harbor currency in times of trouble.

Given these three facts, it's important to remember that going forward, the dollar may have a floor underneath prices.