Corporate Profits Buoyed by Forex Gains

While the American economy is sputtering, US corporations are earnings record profits and stock market capitalization is soaring. These seemingly contradictory trends are being driven by the decline in the USD. Multinational corporations, especially those based in the US, are conducting a growing portion of their business abroad and subsequently, their foreign sales are booming. When corporations convert these profits from the currencies they are booked in back to USD, on which their financial statements are based, they are realizing the equivalent of a 5-10% bump from foreign exchange gains. Many of these companies are web-based, such as Yahoo, Amazon and eBay. Ironically, as the economy sags, betting on these types of companies may be akin to a bet against the USD.

Pound and Euro move in lockstep

In recent years, the British Pound and the Euro have begun to converge in value, so much so that both currencies have traded within 5% of each other for almost a year now. There are a couple of explanations for this trend. First, the relationship between the Pound and the Euro are largely symbolic. Perhaps, investors are grouping the two currencies together because of some perceived economic and/or political similarities. Second, it seems that all of the currencies that are supported by any semblance of sound economic fundamentals have risen against the USD, so it is possible that the Pound-Euro convergence is simply the result of both currencies simultaneously appreciating against the USD. Monetary policy and economic cycles are not aligned in Europe and Britain, so it doesn’t seem this link has any strong fundamental basis. Whatever the reason, in all aspects except for in name, the Pound has officially been absorbed into the Euro. The Financial Times reports:

From the euro’s launch in January 1999 until 2003, the pound initially traded in a wide 21.1 per cent range against the euro. Since then, volatility has been significantly reduced with the trading range falling to 8.6 per cent in 2004 and 7.1 in 2005.

Read More: Sterling in accord with the euro

Pound Surges to 15-Year High

Since 1992, two macroeconomic events had not occurred in Britain: price inflation has no exceeded 3% annually and the British Pound has not surpassed the $2 barrier.  Both events were realized today, however, as an early-morning release of economic data indicated inflation in Britain was hovering around 3.1% and the British Pound quickly rose above 2 USD/Pound.  Interest rate futures also witnessed an immediate correction, to the extent that the markets are now pricing in a British benchmark interest rate of 5.75% 6 months from now, .5% above the current rate.  Meanwhile, US inflation statistics were dovish, suggesting the gap between British and US interest rates is set to widen, which should propel the Pound further upwards.  The Financial Times reports:

There is little that is inevitable about currencies moving in line with expected interest rates and nothing in long-term trends that allows people to predict currency movements in connection with inflation and other variables. But on Tuesday, the currencies moved exactly as if they were linked to the inflation figures by an umbilical cord.

Read More: Pound rises on prices and rates fears