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  The US dollar bubble bursts

BENJ GALLANDER and BEN STADELMANN

Friday, May 23, 2003

Canadians are walking tall again. The brutish winter has ended, the drought-stricken prairies have finally slaked their thirst, and -- wonder of wonders -- the loonie is suddenly trading at about 73 U.S. cents. Can a return to the glory days of cross-border shopping be far off?

For years we have grown accustomed to a weak currency and the list of purported causes that catalogue a nation's weakness: poor productivity, high taxes, political paralysis, brain drain, and a general inferiority in most things -- except, of course, our ironic sense of humour, eh?

The surge in the loonie has caught most economists and financial commentators completely off guard. Though they had grudgingly admitted that our currency was undervalued, the consensus view was for only a moderate strengthening, to around 72 cents by the end of 2004. There's a good reason why these experts aren't hanging out in the trading pits in Chicago!

We were also off on the timing for the bear market in the U.S. dollar; we reckoned it was ready to fall into a ditch a couple of years ago. That's the thing with bubbles -- it's pretty clear when an asset is ridiculously inflated, and the eventual correction in value is as certain as gravity, but predicting the turn to rationality is a mug's game.

What is clear in our minds is that now that the process is underway, it has a long way to run. The number of Yankee bucks that swirl about the world boggles the mind. The net U.S. debt to the rest of the world is approximately $3 trillion (U.S.), and rising at the rate of half a trillion a year. A trillion and a half is sitting in central banks of Asian countries, designated as foreign reserves. Europe and Japan are eager to slow the rise of the euro and yen, but adding still more dollars to vaults already bulging with them does not make sense.

The ebb and flow of that game whets the appetite of speculators such as George Soros, who bragged about his open short position on the U.S. dollar on CNBC last week. But regular folks need to remember that, though all it takes to create money is paper, a printing press, and some ink, there are plenty of things in this world that can only be had with sweat and hard work. Gold, of course, but also copper, zinc, nickel, wheat, corn ... you get the idea. It's still early to call a global boom in commodity prices, but the value of the U.S. dollar is melting, so simple logic dictates that the U.S. will buy less of these items.

After our early call on the dollar, we did not dump U.S. stocks helter-skelter, but instead attempted an orderly rebalancing of the portfolio by purchasing more Canadian and less American.

Unfortunately, we were not as successful as desired and our portfolio remains weighted stateside with the ongoing devaluation hurting our results, which are calibrated in Canadian dollars. Going forward, this systematic process of culling our U.S. positions will continue in a guarded way, with no intention to eject healthy companies that happen to be denominated in a sickly currency.


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