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Dollar Hits Year Low, As Gold At 18-Month High

  • Kathleen Moore

As appetite for risk grows, investors have left the "security" of the dollar, and driven up demand for gold.

As appetite for risk grows, investors have left the "security" of the dollar, and driven up demand for gold.

It's been nearly a year since the collapse of the U.S. investment bank Lehman Brothers triggered the most intense period of the financial crisis.

In the turmoil that followed, one of the "winners" was the dollar, as investors fled riskier markets for the relative safety of the U.S. currency. In the weeks that followed, the euro slumped as low as $1.25.

But now that process appears to be in reverse. The dollar this week hit its lowest level this year, with the euro at around $1.45.

And strange as it might seem, analysts and traders are using words like "optimism" to explain why -- optimism about the prospects for economic recovery.

"We've had the downturn, we've had the moving out of these riskier assets into the protection of the dollar, but now we're starting to see a lot of this unwind and investors and traders take a more positive view on where the economy is going," says James Hughes of CMC Markets in London.

Good News

"We had mergers and acquisitions news this week, we had news that Germany, France, even the U.K. might be coming out of the recession. There's just a lot of positive news around at the moment."

That's led to a rise in "risk appetite" -- the willingness to look for riskier investments that promise a higher return.

In addition, there were words of comfort over the weekend from G20 financial officials, with the Group of 20 economies agreeing to maintain financial support for their economies -- despite signs of economic recovery.

"This has removed some of the worries that exit strategies might have been implemented too early, which would put the recovery at risk," says Ian Stannard of BNP Paribas in London.

Those "exit strategies" at some point will see central banks raise interest rates from their current lows. But the U.S. Federal Reserve, in particular, is expected to keep them low for some time -- another factor keeping the dollar weak.

Gold Rise

And that weaker dollar -- plus the worry that massive government spending will spur inflation -- has, in turn, helped boost the price of gold, which rose to over $1,000 an ounce this week, its highest since March last year.

Stannard says there's been another factor driving gold up -- changes to the practice of hedging, or selling gold at fixed prices. This guarantees producers a certain price for their gold. But it also means they might not get the full benefit of surging gold prices.

So if a producer removes those hedges -- as the world's top gold miner, Barrick, announced it was doing on September 8 -- it means they are betting that prices will continue to rise.

But, Stannard says that "that process is coming to en end, and that suggests the specific support for the gold market is going to be removed."

And the dollar outlook?

Hughes says he can only see the U.S. currency getting weaker in the short term, perhaps with the euro going toward $1.47 or $1.50.

But Stannard expects the reverse -- the euro going down to $1.35 by the end of the year and as low as $1.25 by the middle of 2010.

Why? Because, he says, the optimism that's helped drive the dollar down has been overdone.
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