Money in Motion

The Dollar and the D.C. Impasse

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That August 2 deadline just keeps approaching, and Washington seems no closer to a debt deal.

Here's how to trade the impasse.

Wouldn't it be nice if the Capitol Hill warriors could give it a rest and come together on some kind of agreement? Unfortunately, that doesn't seem to be happening - yet. So the question for investors is how to trade on the impasse.

"If sentiment continues to sour, selling the dollar against the Japanese yen   and the Swiss franc makes the most sense to me," Adam Cole, global head of currency strategy at Royal Bank of Canada in London, told me.

The yen and the Swissie have been rising steadily as the situation in Washington has deteriorated. But Cole is working on the (sensible) assumption that without a debt deal, the markets will become extremely risk averse, so the safest havens would be the best bets.

"I think dollar weakness would play out against a relatively narrow range of currencies, arguably making the moves that much bigger," he says.

Cole recommends steering clear of currencies like the Canadian dollar and the Australian dollar for the same reason: even though they are fiscally solid, investors' risk aversion could make them weaken.

As for where the dollar itself is headed, the technical analysts at RBC Capital Markets say the trading pattern for the dollar index "indicates that the market is losing patience with the debt ceiling negotiations ahead of the August 2 deadline," and "the recent bearish trend reversal suggests that resistance at 74.51 and 76.11 will attract selling interest."

How far it would decline is unknown, of course. But on the (relatively) bright side, if rating agencies wind up downgrading U.S. government debt - as they have warned they may, if an agreement doesn't go far enough - the direct hit to the dollar may not be as bad as some fear. Analysts at Wells Fargo have examined other instances when a country has lost its AAA credit rating, and they conclude "that a credit downgrade would be negative for the U.S. dollar were it to occur, but that the impact should be moderate rather than extreme" - in the neighborhood of 3% to 5%.

Your move.

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