The post-Federal Reserve dip in the U.S. dollar is a great opportunity to go long with the greenback in our opinion. Using the PowerShares DB USD Bull ETF (NYSEARCA:UUP) will be the perfect way to profit from its strengthening in the next few months.
What is the UUP?
UUP is based on the Deutsche Bank Long US Dollar Index Futures Index, which itself is designed to replicate the U.S. dollar's performance against the Euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc. We are confident that the U.S. dollar will strengthen against these currencies in the next few months as the Federal Reserve starts to increase rates at long last. It is weighted as follows:
Sourced from Invesco
The euro could be heading to parity with the U.S dollar.
The euro is clearly the key currency that UUP is up against, but the good news here is that we believe the divergent monetary policies of both central banks will favor a long position in the U.S. dollar. As you can see below the euro has weakened against the U.S. dollar in the last 18 months, but we still believe it will go lower from here.
Currently we share the view of Alan Ruskin from Deutsche Bank which sees the EUR/USD pair falling down to parity this year. Mr Ruskin is the world's co-head of foreign-exchange research at the world's second biggest currency trader, so when he speaks we do sit up and listen. Inflation and the potential Brexit would be the triggers for this. Should the euro drop by some 10.3 percent to parity with the U.S. dollar then it will have a powerful effect on the performance of UUP.
We have been very skeptical on the likelihood of the Brexit occurring when push comes to shove at the June 23 vote. But after the recent tragic events in Brussels, the pro-Brexit support appears to have received a boost as UK citizens start to feel concerned about just who can come and live freely within its borders.
The Japanese yen will weaken.
Elsewhere, the Japanese yen has been on a tear this year. The miserable results of the Bank of Japan's negative interest rates has seen the Japanese yen strengthen since it was announced on January 29.
There's little doubt that the Bank of Japan needs to weaken the yen. A strong yen is really hurting the country's exports and making it incredibly difficult to reach the inflation targets the Governor Kuroda has stated he will reach at all costs. We expect at the next Bank of Japan meeting they will take firm action. Especially considering this week's weak inflation report that has turned up the heat on the Bank of Japan.
Going long with the UUP.
With all this and the Federal Reserve looking at a minimum of two rate rises in 2016, it all adds up to a strengthening U.S. dollar in our opinion. This may not be what a lot of large multinational companies want to hear, with FX headwinds plaguing many of them. But it does have a strong probability of occurring in our view.
So much so we expect to see the UUP break through the $26.00 mark this year, which is a 4.3 percent gain from the current price of $24.93. It could even go higher than that depending on the state of the U.S. economy and whether it can support more than two rate increases this year as Goldman Sachs believes it can.
We are long the U.S. dollar through UUP, as well as against the yen and the Australian dollar through futures contracts. It has been an admittedly troublesome time to be long the U.S. dollar, but we are sensing a shift now and expect to see profitable trades occurring in the next few months.
As always, best of luck with your trades!
Disclosure: I am/we are long UUP.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.