News Column

We could be entering a fully fledged risk-off scenario

August 5, 2014


THE US dollar gained across the board last month on the expectation of interest rate rises from the Fed. The rate differential play across countries is probably one of the few consistent drivers of currency flows. A prime example has been expectations of a higher Bank Rate driving sterling strength. The same force is now affecting the US dollar - but it is not the only factor driving it.

Since last week, geopolitical risk has been back, with a lower FTSE 100 and a relatively strong decline in the S&P 500. In these situations, the US dollar tends to strengthen independent of whether US interest rates are expected to rise or not. This is usually on the back of the US being seen as a safe haven - a place to park money during a financial storm.

The potential shift from a market following interest rate differentials to a fully fledged risk-off scenario - with lower stock markets and a stronger US dollar and Japanese yen - will be on everyone's mind over the next 12 months. The reason for this is simple: most Fed rate increases have lowered the pace of US GDP growth, sparking a stock market sell-off. Markets are now pencilling in a first US Fed rate rise by mid-2015, and the central bank is expected to have ended all new asset purchases before the end of 2014.

This is not the only thing troubling markets: what will happen if the situation in Ukraine escalates; what might happen to sterling if Scottish independence becomes a fact? What I know for certain is that the market does not like uncertainty, and uncertainty opens up trading opportunities.

Do you want to know more about FX and how to trade it? Read Zambrano is a currency strategy analyst at Twitter: @ALEXFX00 ANALYST'S PICK CURRENCY STRATEGIST CHRIS VECCHIO My pick: Short euro-dollar; long dollar-Loonie, sterling-Loonie, euro-Loonie Expertise: Fundamental and technical analysis with risk management Average time frame of trades: A few days to a few weeks The ECB meeting this Thursday, absent any real action, will at least bring along with it a rather dovish slant from governor Mario Draghi at the post-meeting press conference. The spectre of QE will be fleshed out, but without any specific details that would indicate QE is due in the immediate future. A lack of heightened dovishness will probably provoke a short-term squeeze in the euro, where non-commercials/speculators have increased net-short positions (108,000 contracts) to their highest levels since the week ending 21 August 2012 (124,000 contracts). Euro-dollar shorts remain valid below $1.3475.

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Source: City A.M. (UK)

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