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Will Dollar ETFs At All Weaken if the Fed Cuts Rates in July?

Sanghamitra Saha

The investing world is abuzz with talks of a likely Fed rate cut in the July meeting and has probably started to take positions accordingly. Investors should note that the general perception is that if the central bank of an economy lowers interest rates, the economy will lose on foreign investments and end up seeing a decreased relative value of its currency. So, amid a likely Fed rate cut scenario, chances are that investors will bet on a dollar underperformance.

But this time around, the case may reverse in our opinion along with many other analysts. Let’s tell you why.

U.S. Economy Better Positioned in the Developed Market Pack

The U.S. economy grew an annualized 2.1% in the second quarter of 2019, breezing past expectations of 1.8%, following a 3.1% uptick in the previous three-month period.Faster increases in household consumption and government spending led to the beat, while softer exports and a smaller inventory build contributed negatively to growth. Jobs, retail sales and new home sales data for the month of June were also upbeat. Investors should note that U.S. GDP growth data have been much better than the other developed economies, calling for a stronger greenback against other global currencies.

Volley of Rate Cuts Across the Globe  

Market watchers, who are betting big on the Fed rate cut, should note that other central banks are also resorting to the same policy. Giving signals of a rate cut, the ECB said lately that it sees rates at present or even lower levels through mid-2020 (read: ECB May Cut Rates in September: ETFs in Focus).

Central banks in South Korea, Indonesia and South Africa resorted to rate cuts in July to keep a slowdown at bay. Turkey's central bank slashed the key interest rate from 24% to 19.75% in late July in order to kick-start the country's recession-hit economy.

The central bank of Philippines cut its key overnight reverse repurchase facility rate by 25 bps to 4.5% at its May 5, 2019 meeting. New Zealand’s central bank slashed interest rates to a fresh record low in early May and hinted at more policy easing. The Reserve Bank of India lowered its policy rate by 25 bps to 5.75% during its June meeting. India has slashed rates in every meeting this year, enacting a total cut of 75 bps and the bank looks set for another cut in August.

Reserve Bank of Australia (RBA) signaled that interest rates would remain low for "an extended period" and the market began assuming further cuts to the RBA's already record-low cash rate (read: Global Policy Easing Cycle Set in Motion: ETFs to Win).

Apart from this, Japan is still practicing QE policy with negative interest rates. “With $13 trillion of global government bonds now producing negative yields,” the relative valuation of the greenback should not be that weary even if the Fed cuts rates in July. Investors should note that the Fed enacted four rate hikes last year unlike several central banks in developed markets.

Dollar ETFs in Focus

Given the above-mentioned discussion, we can easily conclude that the U.S. dollar won’t struggle much even after a possible Fed rate cut. In any case, a slew of upbeat data points released in July has lessened chances of an aggressive Fed rate cuts this year. Notably, “With the strong jobs report the bets on 50 basis point rate cuts have dropped from almost 30% to 2%” in early July.

Invesco DB US Dollar Index Bullish Fund UUP is up 4.3% this year (as of Jul 26, 2019) and 1.5% in the past month despite talks of Fed policy easing. WisdomTree Bloomberg U.S. Dollar Bullish Fund (USDU has added 2.6% this year and 1.1% in the past month.

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Invesco DB US Dollar Index Bullish Fund (UUP): ETF Research Reports
 
WisdomTree Bloomberg U.S. Dollar Bullish Fund (USDU): ETF Research Reports
 
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