How to Play the Dancing U.S. Dollar With These Two ETFs
Suddenly, after a nearly uninterrupted, decade-long decline, the U.S. dollar seems to have changed course. Recent technical action and fundamental changes could well reverse that 10-year slide and offer investors in exchange-traded funds a chance for profits if the “almighty dollar” becomes mighty again.
The U.S. Dollar Index chart shows us how the currency has been in near steady decline, down some 35%, since the early days of the decade. However, in recent days, the greenback has reversed course after again approaching the deepest lows set during the depths of the financial crisis in 2008.
After making a sharp reversal in early May, the bulls and the bears have been battling for control around the all important 50-day moving average. As the see-saw battle plays out, the question now becomes: Is this a sustainable rally for the buck or just a blip on its long journey to oblivion?
The Technical Edge
On a technical basis, recent action has generated a solid bounce, some would argue a “dead cat bounce,” and now the buck is trading above and below its 50-day moving average for the first time since early this year.
While it’s too early to declare a full blown bull market, the 200-day moving average, widely regarded as the demarcation line between bull and bear, is now less than 4% from current values and a cross above that line would validate the technical picture for a resurgent U.S. dollar.
The Fundamental Edge
Fundamentals are also changing in favor of the currency as some sort of default (read haircut) for Greece seems more likely with each passing day and this development would likely be euro negative and dollar positive.
Many would argue that the Federal Reserve has fueled the risk rally in equities and commodities as well as having created the environment for a weak dollar through its ultra easy monetary programs; now with QE2 coming to an end in June, a paradigm shift in financial markets could well be in the offing.
Furthermore, competing proposals from President Obama and Congressman Paul Ryan to cut the deficit could serve to support a stronger dollar in days and months ahead if the U.S. could demonstrate to the world that we are indeed serious about getting our fiscal house in order.
It’s too early to say for sure if this dollar rally has legs; however, if you’re in the bullish camp or if you’re a confirmed bear, ETFs offer you the opportunity to participate on either side of the trade.
The ETF Edge
In my view, the cleanest way to participate on either the “long” or “short” side of the trade is by using the PowerShares bullish or bearish ETFs.
These ETFs are widely traded and liquid, are based on the Deutsche Bank (NYSE:DB) long or short Dollar Index and are designed to track the long or short performance of the U.S. Dollar against the euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc. (These are highly sophisticated products and so it’s very important to read the prospectuses and understand the potential risks and rewards before dipping your toe in these waters.)
If you’re a bull, possible investment/trading strategies would be to “leg” into a “long” position in UUP (NYSE:UUP) with an eye to becoming more aggressive if/when the trend is more firmly established. More conservative investors could wait to see if the USD is able to break above and hold the 200-day moving average.
For bears, a solid move above the 50-day moving average would indicate longer-term strength ahead for UDN (NYSE:UDN).
Time will tell us if the current dollar rally is for real, but the world’s reserve currency is in active play right now and these two ETFs could offer significant profit opportunities for investors who position themselves on the right side of this exciting and fast moving global market.
Disclosure: No positions in ETFs or stocks discussed in this article.
John Nyaradi is the author of Super Sectors: How To Outsmart the Markets Using Sector Rotation and ETFs
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