The Dollar's Not Dead Yet

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A slowing U.S. economy, a relative loss of U.S. influence, and massive trade and budget deficits have all weighed heavily on the dollar over the last few years. But has the greenback really fallen too far?

A weaker dollar has spurred a rash of acquisitions of U.S. firms by foreign companies, including InBev's $52 billion buyout of Anheuser-Busch (NYSE: BUD). Just last Friday, Samsung announced that it's considering acquiring SanDisk (Nasdaq: SNDK). In addition, Middle Eastern and Asian sovereign wealth funds have made high-profile investments in financial firms Merrill Lynch (NYSE: MER), Morgan Stanley (NYSE: MS), and Citibank (NYSE: C).

King of currency no more?
Has the dollar lost its luster as the world's reserve currency? Chinese banks have indeed been selling U.S. agency debt recently. However, that has more to do with the plights of Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) than a desire to diversify out of dollar-denominated assets.

In fact, foreign central banks (including the People's Bank of China and the Bank of Japan -- mammoth holders of U.S. government debt) have been replacing their agency bond holdings with U.S. Treasury bonds. At $1.44 trillion, aggregate holdings of T-Bonds by foreign central banks are at an all-time high.

The dollar's rebound against the euro and sterling since mid-July suggests that dollar bearishness had reached excessive levels, particularly as evidence mounts that Europe's economic growth is slowing.

In the short term, the dollar looks closer to its fair value than it was three months ago. Over the long term, however, don't forget the trade and budget deficits that hang over the dollar like the sword of Damocles. In that respect, being wholly invested in dollar-denominated assets looks like an unnecessary risk – particularly given the wealth of options available for international investment.

Further globetrotting Foolishness:

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• China's Closing Ceremonies?