Intermarket Correlations Shifting and Eroding

Despite numerous calls that it's over, the risk trade appears to have re-emerged with the euro and commodity currencies rallying alongside stocks. S&P 500 futures are up 4 points and the euro is in the midst of one of its best sessions of the month. The overall direction of the market calls into question theories that the U.S. dollar could rally in an environment of rising risk appetite . Instead, the December dollar rally was likely due to repatriation and a short squeeze. A third possibility is that the intermarket correlations we have become accustomed to are simply fading away. This is a likely theme for 2010 as the normalization of markets will allow market participants to focus more closely on the fundamentals of individual markets. Instead of risk and fear, markets will look at supply and demand. This will be especially true in commodities with weather and supply disruptions to gain a larger share of the market's attention. In foreign exchange, the focus will zero in on interest rate expectations, fiscal situations and relative growth. For a pair like EUR/USD, the implications are enormous. At the moment, there is very little separating the growth outlook between the countries and interest rates. Neither central bank is expected to raise rates for most of 2010 and the consensus is widely separated on growth. Fiscally, the U.S. deficit is showing no signs of improvement while the sovereign outlook in many eurozone countries is troublesome.