FxWirePro: Hedging FX themes amid FED and ECB on eve of X’mas

The FX market reaction to the US labor market report on Friday was an ideal illustration of how the market operates at present. That means the real economic data would have justified USD appreciation, as positive as the real economic situation may seem, Friday’s report fueled doubts as to how USD-positive these sorts of facts are.

The universal tendency towards US equities has mainly been one of cautious skepticism for a few quarters already. They currently exhibit many characteristics of a tired asset but continue to hit new highs.

In order to be a conscientious bear but not a fool, we have found a very cheap and safe way of gaining upside exposure with very limited burden in the event of a sudden downturn. In our previous outlook, we showed that the US tech sector, the key contributor to US equity upside over the last year, has benefited from the weakening dollar since December 2016 thanks to its 60% international revenue exposure.

Despite our general concern over the high level of US equity, we think that in a weakening dollar scenario, there is an upside “risk”, in particular for US tech-orientated equities. The ECB’s very accommodative monetary policy has fueled a clear acceleration in Eurozone growth. At this stage, anything that revives the ECB policy normalization debate should now support the euro.

The bearish dollar view owes less to US expectations than it does to expectations that the recovery in Europe is here to stay.

EURUSD is, thus, projected to continue unwinding its undervaluation, with the base case is foreseen at 1.23 in six months or so.

Hence we suggest buying a call on NASDAQ, contingent on a higher EURUSD. The correlation is moderately negative which should help to cheapen the upside hedge on a continuation of the tech cycle helped by the sector’s sensitivity to dollar weakness. The recent pull-down is providing a timely entry point into that trade.