Move on UUP: Eight Reasons for Dollar Strength

05/16/2018 5:00 am EST

Focus: ETFS

Paul Dykewicz

Editor, StockInvestor.com

The U.S. dollar has jumped compared to other currencies around the world in recent weeks and may tempt investors to buy shares in an exchange-traded fund that tracks the greenback, explains Paul Dykewicz, editor of Stock Investor.

The PowerShares DB US Dollar Index Bullish Fund (UUP) is an ETF that allows investors to gain exposure to the U.S. dollar without engaging directly in foreign exchange accounts. A key question is whether the recent rise in the value of the U.S. dollar is sustainable as a long-term trend or if it is a short-term opportunity that may be best suited for traders seeking to seize quick profits.

An improving U.S. economy that started last year, compared to recent slowing of foreign economies, adds further lift to the dollar. The dollar also climbed when the U.S. unemployment rate fell to a nearly 18-year low during April, as U.S. job growth totaled 164,000 new positions and the unemployment rate slid to 3.9 percent for the first time since December 2000.

In comparison, the U.S. unemployment rate dipped from 4.1 percent, where it had leveled off for the previous six months. Although U.S. economic growth eased slightly to 2.3 percent in the first quarter of 2018, it held up reasonably well amid talk of imposing trade tariffs by President Trump and foreign leaders.

 Forecasters expect annualized U.S. economic growth to approach 3 percent for the rest of 2018, up slightly from the 2.9 percent annualized rise in the fourth quarter of 2017.

Investors who are concerned about volatility in the stock market but want to profit from the current outlook may see merit in the PowerShares DB US Dollar Index Bullish Fund. The ETF seeks to track changes in the level of the Deutsche Bank Long USD Currency Portfolio Index — Excess Return, plus interest income from the fund’s holdings of U.S. Treasury securities and money market incomes, minus expenses.

The fund measures the dollar’s strength against six other currencies: the European Union’s euro, the Japanese yen, the British pound, the Canadian dollar, the Swedish krona and the Swiss franc. The dollar has been rising against the euro in recent weeks.

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One of Wall Street’s most ardent U.S. dollar bulls is David Woo, head of global interest rates and currencies research at Bank of America. Even more significant than the dollar’s recent rally is that interest-rate-insensitive foreign exchange flows are slowing or even ending, he said.

Woo specifically favors selling the euro and buying the U.S. dollar. As a self-described “unabashed” U.S. dollar bull, Woo listed the following eight reasons for his view:

* Continued soft euro zone economic data in April supports a theory that the “euro is too strong,” not that the euro’s weakening is due to weather;

* An upturn in U.S. business investment is paving the way for heightened productivity and wage growth;

* Progress in negotiations to revamp the North American Free Trade Agreement (NAFTA) should increase U.S. leverage in its trade talks with China;

* Corporate America may use the first-quarter earnings season to repatriate offshore cash;

* China’s deleveraging will limit the ability of the People’s Bank of China (PBOC) to match further Fed rate hikes;

* The flatness (steepness) of the U.S. (euro zone) yield curve means foreign investors only will consider currency unhedged (hedged) investment in U.S. (euro zone) bonds;

* The fiscal risk premium in the U.S. dollar already is very high; and

* Divergence between momentum and positioning are turning the tables on overextended “long” investments in the euro.

Currency investments are a zero-sum game in which one form of money rises at the expense of another. For investors who believe in the Wall Street adage of “sell in May and go away,” an investment in a U.S. dollar fund could offer a reasonable way to try to profit from the currency’s uptrend and sidestep a possible summertime slippage in stocks.

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