Funds for a Dollar Dip

It's not easy being green.

It has been clear for a while that the greenback is experiencing its fair share of trouble, and as a consequence, traders have built up a number of large positions against the currency.

While their moves could bring on a correction in the short term, there's still fundamental reason to believe the dollar is on a downward trajectory, or at the very least, that we're in for some bumpy currency markets.

"It's still prudent to diversify out of the dollar because none of the problems driving the dollar lower have been fixed," says James Turk, gold bull and founder of GoldMoney.com. "It's no different than what central banks are doing, most recently the Bank of Italy, which said it will reduce some of its dollar reserves and buy British pounds."

One reason some foreign banks and dollar shorts believe the trend will outlive any correction is that the interest rate spread between the U.S. and the EU could diminish.

"Interest rates are a game of enticement," says Turk. If the European Central Bank raises its lending rate to 3.5% and the Federal Reserve stays at 5.25%, or even lowers the rate by 2007, it will narrow the gap between those figures. Significantly higher rates in the U.S. have made dollar-denominated assets attractive to overseas investors.

Dollar bulls say the greenback offers superior quality for investors, particularly compared to emerging-market currencies, and that this advantage will keep investors coming back to the well. But critics contend that quality is being eroded by quantity.