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Bet on Euro-Dollar Parity with These ETFs - ETF News And Commentary

Sweta Killa

Thanks to the sliding euro and surging U.S. dollar, it won’t be much of a surprise if euro trades in parity with the U.S. dollar at some point later this year or in the next.

Slumping Euro

The euro tumbled to an 11-year low of $1.11 against the greenback after the European Central Bank (ECB) rolled out a massive bond-buying package of €60 billion ($68 billion) per month to revive sagging growth and fight deflation. Despite this stimulus, the problem in Europe is unlikely to be resolved anytime soon, keeping the currency under pressure (read: 4 European ETFs to Buy on Cheaper Valuations, QE Launch).

The victory of the anti-austerity Syriza party raised concerns over the future of the countries using the euro currency and the European nations. Alexis Tsipras, the leader of Syriza vowed to renegotiate the terms of the €240 billion bailout and reverse many of the austerity measures imposed by the European Union and International Monetary Fund. The turmoil in Greece and its uncertain future in the Euro zone will continue to weigh on the second-most traded currency in the world.

Further, the Swiss Bank scrapped its three-year old peg of 1.20 Swiss francs per euro, resulting in a spike in franc but drop in euro.

Surging U.S. Dollar

The dollar has been surging against the basket of major currencies on a strengthening U.S. economy and the prospect of rising interest rates sometime in mid 2015. In particular, a rise in interest rates will pull in more capital into the U.S. and lead to further appreciation of the dollar, though the Fed is not in a hurry and vowed to be ‘‘patient’’ on raising interest rates.

Additionally, a diverging European policy in contrast to the U.S. Fed policy of tightening will continue to drive the U.S. dollar upward, thereby resulting in depreciation of the euro against the greenback (read: Can U.S. Dollar ETFs Continue to Surge in 2015?).

It seems that the EUR/USD parity is in the cards if the current trend continues. In that case, euro will continue to fall and dollar will continue to rise. Given this, investors seeking to tap this opportune moment could go short on euro and long on the U.S. dollar. This could easily be done with ETFs in two less-risky ways, which are highlighted below:

1.    Short FXE and Long UUP

Investors should sell CurrencyShares Euro Trust (FXE) and buy PowerShares DB US Dollar Bullish Fund (UUP). This is because FXE tracks the movement of the euro relative to the dollar. It has managed $271.3 million in its asset base and sees a good volume of more than 634,000 shares a day. The product has an expense ratio of 0.40% and is down 18% over the past one year.

On the other hand, UUP offers exposure to U.S. dollar against a basket of world currencies, including euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc. This is done by tracking the Deutsche Bank Long US Dollar Index Futures Index Excess Return plus the interest income from the fund’s holdings of the U.S. Treasury securities.

In terms of holdings, UUP allocates nearly 58% in euro while 25% collectively in Japanese yen and British pound. The fund loaded $1 billion in its asset base and trades in a huge volume of more than 1.6 million shares a day on average. It charges 80 bps in total fees and expenses and gained 16.4% over the trailing one-year period (see: all the Currency ETFs here).

2.    Buy EUFX and UUP

Investors could also bet on inverse euro ETFs along with going long on UUP. ProShares Short Euro (EUFX) seeks to deliver the inverse return of the daily performance of euro versus the U.S. dollar. It is often overlooked by investors as it has just $14.9 million in its asset base while volume is light at less than 7,000 shares per day. It charges 95 bps in annual fees and added 20% over the past 12 months.

Bottom Line

Either of the above-mentioned combination could result in huge profits given stronger domestic economy, an expected interest rate hike, stalling European growth and diverging policies.

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CRYSHS-EURO TR (FXE): ETF Research Reports
PWRSH-DB US$ BU (UUP): ETF Research Reports
PRO-SH EURO (EUFX): ETF Research Reports
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