David Bloom (director of currency strategy at HSBC), paraphrased by Peter Garnham in Friday’s FT:
“Today the euro represents growth and has become a big equity bet, while the dollar is firmly entrenched as a fixed income currency.
“In order to get yield enhancement the market [BWS note: really just the part of the market that isn’t central banks] moved away from government bonds in the US and since 1999, has taken a $2,100bn bet of US credit” says Mr. Bloom. “Given that the big play on the US has been the credit markets it makes total sense that a credit market problem is a dollar problem”
One of the reasons why the dollar rallied over the past few days – at least in the eyes of some – is that Americans who had heavily invested in foreign, including European, equities over the past year or so decided to take some money off the table. So, strangely enough, bad news for the US stock market became bad news for the global stock market and good news for the dollar (see BNP), overwhelming, at least temporarily, the dollar’s subprime problem.
At least that is one story.
Incidentally, one question I have long had is whether or not Europeans holding exposure to US credits typically hedge their exchange rate risk. AXA's cash plus fund must have, though that didn't prevent the fund from getting into trouble taking a bit of ill-advised credit risk ...
UPDATE: More from the Financial Times, drawing on the thinking of UBS's Mohi-uddin:
Mansoor Mohi-uddin, chief foreign exchange strategist at UBS, said while the sudden sell-offs in asset markets, carry trades and emerging market currencies were helping the yen and the Swiss franc to regain lost ground, investors should be aware that the dollar would benefit from safe haven seeking flows as well.
He said since global equity markets started rallying in 2003, the dollar had weakened as US investors bought foreign equities, emerging market currencies and commodities. “Increased risk aversion now will halt such flows while encouraging US investors to repatriate funds to cover losses in domestic markets"
One small point: I wouldn't call the reversal of risk-seeking trades by American investors safe haven flows, at least in the classic sense. At least in my view, there is a difference between the dollar serving as a "safe haven" for US investors in times of stress and the dollar serving as a "safe haven" for foreign investors in times of stress. The reporting that I have seen is telling "a US money coming home" story (or an unwinding of dollar-funded trades story) more than "a foreign money coming to the US" story.