Biotech Values

[DewDiligence]

Exchange rates are relevant to biotech investing insofar as they
affect companies’ financial results disproportionally, according
to where companies book revenues and where they incur costs
(especially R&D). This write-up from the WSJ is bearish on the
US dollar, which is bullish for many US-based companies that
derive a substantial portion of their revenues from abroad.

http://online.wsj.com/article/SB125131560834161423.html

›Low Interbank Rates Position Greenback for ‘Carry Trade’

AUGUST 27, 2009
By DAVID ROMAN

SINGAPORE -- The dollar officially became cheaper to borrow than the conspicuously low-yielding yen for the first time in more than 16 years. That doesn't bode well for the U.S. currency, some analysts said.

The dollar has long benefited from positive yield premiums, especially against the Japanese currency, but the prospect of the Federal Reserve keeping U.S. overnight interest rates essentially at zero until at least late next year has wiped out the dollar's premium.

That means less incentive for investors to park funds in dollar assets for the relative yield advantage, or "carry." This is particularly true in Asia, where many central banks traditionally try to keep their exchange rates as even as possible against the dollar.

The fall in dollar interbank-borrowing rates -- on an absolute basis, but even more so in relative terms -- could even see the dollar becoming a funding currency, the unit investors borrow to buy higher-yielding assets.

For years, while markets were generally stable and the Bank of Japan was the only central bank to keep interest rates near zero, the term "carry trade" was shorthand for yen-funded bets on interest-rate differentials. Investors borrowed yen cheaply and sold it for assets denominated in higher-yielding currencies, notably the euro, the Australian dollar and the U.S. currency.

This helped keep the Japanese currency weak. The dollar stayed above 100 yen from 1996 to early 2008 even as it fell steadily against other major currencies. When market turmoil from the global financial crisis caused investors to unwind their short-yen carry trades, the yen shot up. But when volatility ebbed, the dollar continued to offer positive carry against the yen.

Now that yield differential has flipped. Expectations that dollar liquidity will remain plentiful for some time have helped drive borrowing costs in dollars in money markets to record lows.

The three-month London interbank offered rate for dollars, a key gauge of liquidity in the short-term funding markets and a benchmark rate for short-term borrowing by companies and consumers, this week fell below the three-month yen Libor rate for the first time since May 1993. The dollar Libor rate, which surged to 4.81875% at the height of the global panic in October, fell Wednesday to 0.37188%, sliding below the yen Libor rate, which has fallen to 0.38813 from last year's high above 1%.

It isn't likely that investors would massively short the dollar as a funding currency, especially against the yen. Indeed, with the Bank of Japan expected to raise rates even more slowly than the Fed, dollar Libor rates could soon rise back above yen Libor, says Woon Khien Chia, a strategist with Royal Bank of Scotland.

But the puny U.S. yields could add to longer-term dollar negatives, such as the huge and burgeoning U.S. budget and trade deficits, although not necessary in relation to the yen.

Analysts at Morgan Stanley who are generally dollar-bearish forecast the euro to rally to $1.60 by the end of next year from $1.43 now. But they also see the dollar rising to 101 yen from 94 yen now.

…Some analysts suggested that positive U.S. news may be slowly helping the U.S. dollar. The dollar recently had gained when economic news turned gloomier and investors sought safety.

…Standard & Poor's chief economist David Wyss sees little reason for the dollar to remain strong as he expects front-end U.S. interest rates to be low for some time. He said congressional elections in November 2010 represent a strong incentive for the Fed to stand pat.

That said, the slide in dollar Libor rates can be seen as a vote of confidence in U.S. policies. The rate reflects what price banks are demanding to lend each other dollars: When markets were panicking late last year, the interbank market seized up and Libor rates spiked.‹