In which currency should you hold cash?

Posted on 13 January 2009 with no comments from readers

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In a recession cash is king, but which currency should you hold? As investors begin to worry about the size of global bailout and stimulus packages and their longer term implications for currency values, this is a valid question and deserves a serious answer.

Short term I favor the US dollar, mainly because I expect a further sell-off in global capital markets, and as we found last autumn when markets sell-off then investors cash in their assets for US dollars. It is an automatic effect as dollars are what you get when you sell, and the selling boosts demand for dollars, at least temporarily.

The problem is that you do not need to be a rocket scientist from a hedge fund to see that the huge expansion of the global money supply now in progress by governments is going to cause inflation and devalue money. It will take time because in a recession people save their cash but when they start to spend it the inflation is inevitable.

Inflation

Central banks know this and are happy to see inflation melt away the burden of debt which has become intolerable. Never mind that savers lose their shirts. Then the whole up cycle can start again. But anybody holding cash will see its value seriously eroded.

We all know this happens overtime anyhow. As a student I could live comfortably on $6,000 a year in 1980 (admittedly we had many more hidden subsidies for students then), how far would that money go today?

So the question is whether switching out of the dollar into another currency at some point in the future will counter inflation? It is a tough call as in a global recession there is a competitive devaluation going on and the US dollar has been doing comparatively well in the past few months.

Personally I hold UAE dirhams – which are dollar linked – for the high rate of interest on deposit accounts, combined with instant convertibility due to free exchange policies (which were not even revoked in the First Gulf War). There is also the commitment to a single Gulf currency by 2010 which offers the prospect of a significant revaluation in the near future, although I am not speculating on that.

China

Otherwise it is a tough to go anti-dollar right now. The yuan is one idea, and I certainly think Chinese stocks will be a very good buy at some point in the near term as there will be significant upside both for the currency and the equities.

But the yen and the euro are facing serious recessions, and longer term should lose out in value to lower cost locations like China, or resource rich areas like the Persian Gulf. Recessions do have a habit of accelerating obvious trends.

However, the currency of choice is surely to go back to gold and silver as a defense against paper currencies and the nasty habit of governments to print money in difficult times. There is a worry over volatility with precious metals but then currencies have hardly been very stable recently, and actually a good deal more volatile than gold.

Certainly if you have a large cash position you should consider holding up to half of it in gold and silver and related assets as a hedge against currency devaluation which looks inevitable, and why not protect against an enemy you know is coming?