Relationship: economic data and US Dollars

By John Authers, Investment Editor

Published: May 13 2009 18:40 | Last updated: May 13 2009 18:40

Investors have had a reminder this week that sometimes economic numbers can come out worse than expected.

For two months, severe pessimism created low expectations that were regularly beaten by the data. Now we are having negative surprises again, and the response is a correction to the rally of the past two months.

On Wednesday, we learnt that US retail sales fell last month. They were not supposed to do that. On Monday, Chinese exports were revealed to have barely risen in April. They are running at about the same level that was typical in late 2006. Again, they were supposed to bounce back rather more than that.

The dynamic between Chinese producers and US consumers is central to the world economy. So indications that it was not reviving as fast as expected were enough to push share prices down sharply. This week, the FTSE All-World index is down 3.9 per cent, while the S&P 500 and FTSE-Eurofirst 300 are down somewhat more – a correction that leaves most of the rally’s gains intact.

The bad data also helped the dollar. It still strengthens when risk aversion rises – in credit or equity markets – and weakens when risk appetite returns, continuing a perverse correlation from last year.

This data does not imperil the thesis that drove the rally. That thesis was that it was no longer necessary to factor in a risk of the “nightmare scenarios” of an all-out financial meltdown and an ensuing second Great Depression. Prices in March incorporated a significant risk of these scenarios, so a rally could be justified from there.

The latest data continues to show that the “free fall” for the global economy has ended. But it also shows that hopes of a swift recovery are unduly optimistic. The market plainly finds this disconcerting. That shows that sentiment, after more two months of rallying, was ahead of itself.