NEWS / Foreign Exchange

Peak in sight?

• Peak in sight?
• Gold is heading south
• Scandinavian round trip

Peak in sight?

For a long time, the dollar has had a sluggish profile against the three high-yielding currencies AUD, NZD and CAD, but also against EUR and GBP is the dollar trading at extremely high exchange rates at present. Recently a higher-than-expected inflation level in the UK sent the GBP/USD rate to a 26-year high, and the EUR/USD rate is testing levels not seen since the end of 2004. The question at present is, of course, whether a peak is in sight, so that we are in for a correction, or whether the current trend will continue.

As evident from the chart below, the EUR/USD rate is now nudging important points of resistance. Also, many of our models show that the cross rate is beginning to look strained. Moreover, our momentum models, RSI and stochastics, show that the cross rate is losing momentum, which will presumably result in a correction. It is, however, important to point out that we have not yet got a final sell signal, so breach of the trend channel (the blue lines) and close beyond the channel at the same time as breach of the old top at 136.70 will put paid to our expectation of an early correction and should therefore be used as a stop-loss level for short-term long dollar positions.

Evidently, the financial markets are of the firm belief that the current trend with a stronger EUR and a weaker USD is here to stay, and at the time of writing, there is not much belief in a correction to come.

What has chiefly driven the EUR/USD rate has been the development in market expectations of the spread between the euro zone and the US. Although market expectations of interest-rate cuts on the part of the Federal Reserve have been lowered from almost three by the end of the year to currently almost two, expectations about interest rates in the euro zone have been revised up from almost one hike to currently almost two!

Like the market participants, we expect another interest-rate hike on the part of the ECB, but with regard to the Federal Reserve we disagree strongly. We doggedly maintain that the Fed will have to bite the bullet and raise the Fed-funds rate by another quarter percentage point this summer before hikes are put on hold. If you take that into consideration, it tallies with our expectation of a dollar appreciation ahead.

We therefore recommend investors to buy dollars, for the short as well as the long term. The first short-term target is a return to 134.50, but with potential down towards 133.00. On the other hand, if the EUR/USD rate continues its current trend and closes above 135.70, investors should close their dollar positions once more.

The alternative to opening spot positions is to buy currency options. With the option volatility at very low bottom levels, this step is also recommendable. A one month EUR/USD put option (corresponding to a USD/DKK call option), strike 134.50, costs 0.35 (spot reference 135.95 EUR/USD).