King Dollar Rallies

 | Oct 10, 2011 | 9:15 AM EDT
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If you live in Europe, as I have for over 20 years, you become acutely atuned to the fate of the U.S. dollar.

George Soros, who was living down the street from me in September 1992 when he "broke the bank of England" with his bet against the pound, put it in more philosophical terms, calling currencies "an existential choice."

That's a Central European intellectual's way of saying that you are always invested in one currency or another, your ignorance of that fact notwithstanding.

Existential or not, currency movements can have surprising impact. If you think in terms of the your bang for the buck, there was hardly ever a better time be in breathtakingly expensive London than right at the height of the post-Lehman financial crisis.

Compared to November of 2007, right about the time Chancellor Gordon Brown had boasted that he had conquered the business cycle, Sterling hit a high of $2.08.  By January 2009-the British currency had plummeted to about 1.38 to the U.S. dollar. For Americans earning their money in U.S. dollars, that meant a (brief) 33% jump in their purchasing power. 

The pound recovered and eventually settled into a trading range around $1.60. That is, until the spike in risk aversion in August, topped off by the Bank of England's announcement of its own version of QE2 on Oct. 6 by pumping 75 billion additional pounds into the economy. Predictably enough, the pound has taken a beating, dropping to the bottom end of its trading range established since the middle of 2010.

But the pound is not alone in having endured a tough six months.

Despite the European Central Bank's generally Teutonic, tight-fisted monetary policy, the euro has fallen about 10% from its peak.

And I've already written about the extremely overvalued Swiss Franc.

Nor has the currency of the fast-growing Swedish economy, the krona, escaped the bloodletting.

Confirming its status as a safe-haven currency, the yen is the only major currency that has held steady.

When investors speak of the value of the dollar it's worth clarifying what they mean. Unless you're speaking a specific cross rate, then it will usually be the US Dollar Index (USDX), a measure of the value of the United States dollar relative to a basket of foreign currencies.

USDX is a weighted geometric mean of the dollar's value compared only with

•        Euro (EUR), 58.6% weight

•        Japanese Yen (JPY) 12.6% weight

•        Pound sterling (GBP), 11.9% weight

•        Canadian dollar (CAD), 9.1% weight

•        Swedish krona (SEK), 4.2% weight and

•        Swiss franc (CHF) 3.6% weight

You may be surprised to see that the euro is weighted so heavily in this basket. Throw in the other European currencies -- the Swiss franc, the pound and the Swedish krona -- and European currencies add up to 78.3% of the index.

In short, the value of the dollar, at least in the world of foreign exchange, is pretty much linked to the euro and a couple of other European currencies.

Only 12.6% is based in Asia, where the world's economic future apparently lies. And even that's in Japan-, the most economically stagnant part of the region.

Yes, I know I left out the Canadian dollar. And I know the Australian dollar is also widely traded. But with no Chinese Yuan ( a managed currency), Brazilian real, or Indian rupee in the mix, the currency world remains surprisingly Eurocentric.

If you want to play the current rebound in the U.S. dollar, look at the PowerShares DB Dollar Bull ETF (UUP).

For a leveraged way to play this, look at Rydex Strengthening Dollar 2x Strategy A (RYSDX). Note that this is a mutual fund, and not an ETF

The performance of both UUP and RYSDX are linked to the U.S. dollar index.

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