US Federal Reserve Chair Janet Yellen is turning from currency traders’ best friend to their biggest foe.
The most popular trade in the US$5.3 trillion-a-day foreign exchange market has been betting on a stronger US dollar, leaving investors exposed when Yellen last month dampened speculation of an imminent increase in interest rates. As the US dollar slowed its advance, an index of currency returns snapped a record winning streak, prompting traders to reassess how much higher the greenback can go.
“Currency managers had been doing well because they’ve been long [US] dollars, and the dollar had been pretty much on a straight-line trajectory higher,” RBC Capital Markets global head of currency strategy Adam Cole said.
The dollar’s slowdown is “a major factor behind returns looking less positive,” he said.
While Bloomberg’s Dollar Spot Index climbed to a record on Tuesday, the measure is rising at the slowest pace since June last year and speculators, including hedge funds, are paring bets on how much the currency will strengthen.
Yellen last week told the US Congress that she will not be locked into a timetable for boosting borrowing costs, just days after minutes of the Fed’s January meeting underlined the damage a stronger US dollar can do to the economy.
Parker Global Strategies LLC’s gauge of 14 top currency funds fell 0.1 percent last month, ending seven months of gains, the longest run in data going back to 2003. The index rose to a three-and-a-half-year high in January as investors boosted long dollar positions, or bets the US currency would appreciate.
That wager worked out until the Fed undermined speculation it was planning to raise its zero-to-0.25-percent target rate in the next couple of policy meetings.
The minutes of its more recent gathering, published on Feb. 18, described the strong US dollar as “a persistent source of restraint” on US exports, while Yellen told lawmakers on Feb. 24 not to assume an increase was imminent if the Fed drops a pledge to be “patient” on tightening policy.
The resulting pause in the US dollar “accounts for some of that disappointment in the performance” of foreign exchange funds, Morgan Stanley head of European currency strategy Ian Stannard said.
The euro slid to the lowest level since 2003 as the European Central Bank (ECB) prepared to start purchasing bonds to spur a slumping economy, while employment gains in the US moved the Fed closer to raising interest rates.
The shared currency fell versus most major peers this week after the ECB said the 1.1 trillion-euro (US$1.2 trillion) quantitative-easing plan would begin tomorrow.
A report next week might show US retail sales rose in February for the first time in three months.
“As long as we continue to see stronger growth here and not such strong growth in Europe, I think that continues to give a boost to the [US] dollar,” said Kate Warne, a St Louis-based investment strategist at Edward Jones & Co, which manages US$870 billion.
The euro sank 3.1 percent to US$1.08 this week in New York, touching the lowest level since September 2003. It was the third straight weekly loss. The common currency fell 2.2 percent to 131 yen. The Japanese currency declined 1 percent to 120.83 per dollar and reached 121.28, the weakest in three months.
The Bloomberg Dollar Spot Index, which tracks the US currency against 10 major counterparts, rallied 2.3 percent to 1,198.93, the highest in data going back to 2004. It was the third weekly gain for gauge, which has risen 6 percent this year.
The euro will probably reach parity with the US dollar by early next year, BNP Paribas SA foreign exchange strategist Vassili Serebriakov said on Thursday.
“Policy is set and we still think the euro weakens, but it weakens more gradually,” Serebriakov said. “We’re moving from the announcement effect to the flow effect.”
The US dollar and the euro last traded on a one-for-one basis in December 2002.
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