In the last three days there has been a sharp depreciation of the dollar against the euro and the pound, and to a lesser degree against the reai and won. This re-ignition of the debate about whether the dollar will continue to dominate the global financial system. Our opinion is that there is no natural contender, but the Dollar will continue to depreciate. Since November 2008, we have been pointing out that a combination of weaker G3 currencies and inflation will provide a partial solution to the economic problems that resulted from the international economic crisis.

How can you protect your investments from the depreciation of the most important currency in the world?

The best way to achieve this goal is to diversify your portfolio and include commodities and multinational stocks, as well as, emerging markets bonds and inflation linked bonds. Some of the appreciation we have seen in international stocks and commodities is explained by a weakening dollar and not because of a change in fundamentals.

Let me reiterate once more that we continue to believe that the dollar will continue to be the reserve currency, and the means of payment for the international economy in the near future (3-5 years). It is important to note that even if the Dollar continues to be the dominant currency it can still depreciate in value, and can also lose its edge as the most prominent currency. As the Dollar diminishes its global relative dominance as reserve currency and medium of exchange to other currencies (in particular Asian ones) this limits the benefits from the inflation tax. We maintain our thoughts that the developed countries will start to limit and slowly decrease the fiscal and monetary stimuli, which will generate some inflation without much signs of growth.

Specifically, at Baffin, we design portfolios that maintain the wealth in real terms through time, and therefore it is key to protect the assets against the depreciation of the Dollar. Our portfolios include over 15% in commodities, which is diversified into energy, materials, and agriculture. Our allocation for stocks is around 30-35%, of which less than a third is in the S&P500 (which has a big exposure to multinational stocks), and the rest is allocated to non-US companies, such as Asia, Latin America and to a lesser degree Europe. We have allocated 40% of the portfolio into fixed income, and we have diversified across currencies and inflation linked instruments. We have limited our direct allocation to the Dollar to 50% of the portfolio and we have taken advantage of hedging instruments to reduce that exposure even further.

We believe that we will continue to observe a non trivial depreciation (but not secular) of the G3 currencies. Therefore portfolio allocation has to take into account the purchasing power of wealth.

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