Three Themes and Setups to End an Interesting Year in FX
Until recently most observers expected the US dollar to test new lows by year end 2010. We see three major themes that have quickly changed that dynamic as we close out the year. Here is a look at the three themes and three major trade setups that could result:
1. Quantitative easing was already in the price!
- Dollar Bullish: The improving US interest rate differential is a real change a likely big driver. The US dollar and interest rates have been in a very tight positive correlation. That correlation continues apace, but now it is moving in a favorable way for the US dollar. Most didn’t expect that to result from further Fed ease through QE2. Here is the primary correlation we have been watching for several months:
US -Germany 6-month yield spread versus the US dollar index: As you can see, as the yield differential got worse for the US dollar (black line going down) relative to Germany (Europe), the dollar sank in unison. Surprisingly to a lot of players, this yield differential has changed directions since the Fed initiated its second round of quantitative easing and the dollar has reacted accordingly.
…go directly to Page 2 of Themes HERE