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Rate-Watchers Hopeful That Rise Is On Track

14 April 2015 in Trading Ideas

Patience, it seems, is no small thing.

Last month, the Federal Reserve dropped a single word – “patient” – from its official statement updating its monetary policy stance, which suggested to many Fed followers that the central bank could begin raising interest rates as early as this summer.

That suggestion was buttressed days later by the Fed’s second-in-command, Stanley Fischer, acknowledging that “it is well expected that the rate will lift off before the end of this year.”1

Fischer cited at the time significant economic progress and a labor market that was nearing full employment. As for timing, however, Fischer said the tightening would come “when there has been further improvement in the labor market and we are reasonably confident that inflation will move back to our 2% objective over the medium term.”

Just this past week, currency investors exhibited their own optimism for a rate hike on Monday, when the dollar climbed in a broad rally on renewed hopes that the Fed was staying on what has become the expected schedule.2

The greenback’s resurgence came at the expense of many rivals, according to the Wall Street Journal, with the euro headed toward a 12-year low, both the Australian and New Zealand dollar losing more than 1%, and the Turkish lira hitting a record low against the buck.

“We are having a big shift back toward US dollar strengthening,” Camilla Sutton, chief currency strategist at Scotiabank, told the Journal.

Before Monday, the dollar’s ascent this year had paused in recent weeks, with investors pushing back their expectations of a Fed rate increase amid some disappointing US economic data. But growth in other major economies also seemed to be stalling, underlining the policy divergence between the Fed and many other central banks, the Journal reported.

Despite the weaker-than-expected data, “the US still stands out as an island of stable growth on a global scale,” said Lennon Sweeting, a San Francisco-based dealer at broker and payment provider USForex. “Even if the Fed doesn’t raise rates in June, they’re still on a path toward policy tightening, while a number of economies are loosening policies,” he said.

The Rising Interest Rates motif has gained 4.1% so far in 2015. During that same time frame, the S&P 500 has increased 2.2%.

Over the past 12 months, the motif has risen 26%; the S&P 500 is up 16.7%.

The dollar’s renewed strength has also been helped by earnings season, as many US corporations convert their overseas revenues into dollars, driving up the demand, Sweeting said.

In addition, analysts at BNP Paribas said the effects of the European Central Bank’s bond-buying program, which has driven down yields on bonds inside the eurozone, is likely to weaken the euro further, according to the Journal. “We expect the negative real yields associated with (quantitative easing) in the eurozone to force eurozone investors increasingly into foreign markets,” driving down the currency, the analysts said.

Many foreign currencies had benefited from years of low US interest rates, as their countries’ relatively higher rates drew investors, the Journal said. Now, with the prospect of rising interest rates in the US this advantage is diminishing for them, as the dollar emerges as an alternative that not only has higher yields, but is also safer and more liquid, according to Thu Lan Nguyen, a foreign-exchange strategist at Commerzbank in Frankfurt.

For investors in stocks that can benefit from higher rates in the US, a helping hand from Europe could add to the opportunity’s prospects.

1Susie Poppick, “Higher Interest Rates Are Coming. Here’s Who Wins and Who Loses,” time.com, March 23, 2015, http://time.com/money/3749580/higher-rates-winners-losers/, (accessed April 13, 2015).

2Carolyn Cui, “Dollar Rallies on US Interest-Rate Hopes,” wsj.com, April 13, 2015.