How To Play Currency ETFs In The Year Ahead

dollar etfCurrency markets saw an eventful 2013 with the dollar spiking, emerging markets currencies sliding, the yen setting multi-year lows every now and then and the Euro gaining and losing strength with every move by the central bank.

A big reason for this movement in the world currency market was the taper talk in the U.S. that came into the picture in May and the ilikely mpact of the taper on emerging market capital flows. Also, huge monetary stimulus in developed markets like Japan and the U.K. as well as the Eurozone regulated the fate of theer respective currencies.

Let’s see how things are shaping up as we approach the New Year.

Finally Taper Hits & the Dollar Gains

After months of speculation, the Fed has finally decided on a modest tapering (worth $10 billion per month) from January 2014. The Fed chairman, Ben Bernanke commented that the bond buying program will be curtailed in phases in 2014 if improvement in the labor market matches their expectations, and may finally end by late 2014 (read: Fed Tapers Bond Purchases: 3 ETFs in Focus on the News).
The greenback climbed the day immediately after this announcement (on December 18) and is expected to move higher in 2014 again a basket of varied currencies.  Not only the gradual withdrawal of the Fed’s monetary stimulus, but also the steady U.S. economic growth will likely spur the value of the greenback.

In fact, last year the PowerShares US Dollar Bullish Fund (UUP) moved sideways in a very tight range of $21.32–$22.98 per share. From a technical viewpoint, its short-term moving averages have presently outpaced the long-term ones. Also, its relative strength index of 55.99 suggests that the fund is way behind the overbought territory. UUP currently holds Zacks Rank #2 (Buy).

Volatile Ride of the Euro 

Meanwhile, Euro stumped investors and analysts by gaining strength against the dollar and reached to its 2-year high as of December 27 primarily after European Central Bank governing council member Jens Weidmann cautioned that keeping interest rates low may endanger political reforms.
Eurozone returned to growth in Q2 after a two-year acute debt crisis and inflation eventually picked up in the region. This has helped drive this single currency to some extent.

Moreover, some experts believe that the strength in euro emanates from some year-end factors which include liquidity crunch in the euro zone as European banks are repaying crisis loans to the European Central Bank which in turn raised short-term interest rates and the currency.

As a result, CurrencyShares Euro Trust (FXE) – designed to reflect the price of the Euro in USD – gained 1.21% over the last one-month period (as of December 27). However, investors should be extra cautious before adding long positions in the Euro as the euro zone recovery is still far from reaching the desired level and the region might need stimulus in the coming days putting a strain on Euro. On the contrary, USD will likely shoot up with each measured QE withdrawal thus marring the appeal of Euro next year. Notably, FXE currently has a Zacks Rank #5 (Strong Sell).

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