[BillPaay]

The USD has hit new lows at the European close – and many are trying to figure out why. Behind the scenes the USD selling comes from a number of arguments.

1) Fear of the US debt. The ability to pay for the deficits is one key trigger and the acceleration of USD selling today came from the 11 am refunding announcement. The US debt to GDP ratio may be in line with many of the other G10 nations but its absolute USD borrowing amount outstrips the foreign available USD capital. Many see this as a key driver for USD down and US rates up. This correlation remains a big opportunity to trade in many currency pairs.

2) Fear of US policy. There are real doubts for foreign investors in the US about the new wave of government intervention in the private sector. The uncertainty over tax policy, regulation and other moves to state control leave investors waiting rather than acting. USD gets lost in the process as other nations get the capital flows.

3) Decoupling. USD weakness is really a story of BRIC and other EM growth outperformance. The USD lags as investors search for the nations that will get out of the recession fastest – the Philly FED report today underscored that growth differential.

4) Inflation. The run up in oil leads to doubts about inflation policy – as commodity led price increases seem to drive over arguments about output gaps and unemployment. The rush to gold adds to doubts about USD as well as the role of reserve currency shifts from fiat paper money to real assets.

5) Normalcy. As short end spreads in private rates revert to pre-Lehman crisis levels the need to hold USD has dropped and the market shifts to EUR as many see that as the next best choice. The narrowing of spreads has led to the view that the FED policy has worked but that its ability to turn it over is still in doubt.

6) Momentum. Charts don’t lie. Money is chasing money in FX as the USD selling in one currency is a domino for others. The push of the USD lower has stirred enough doubt to lead many to rethink where the USD should be not tomorrow but 1 or 2 years out. The alternatives get smaller – present reserve currencies like GBP, EUR, JPY, CHF win first but future ones like CNY are also worth watching. This market is just now starting as story of 1Q and most of 2Q in FX has been range trading rather than trending markets. The trend up will attract new money.

7) Carry. The USD has become the deepest and most liquid currency to fund – which leads to more borrowing of dollars and selling of it out for higher yielding currencies – like BRL. The carry trade has attracted a lot of attention with the drop in volatility. The two trades go hand in hand and have like momentum followers worked well.

Bottom line: This is a trend – its drivers are many and few will want to fade the moves today with any new logic. Correlations of USD to oil, stocks and rates are all breaking down as FX differentiates. This has led to less subscription to the overall trade and kept positions smaller. Expect the USD to move more dramatically next week post the US memorial day holiday.