Up more than 12% year-to-date, the CurrencyShares Euro Currency Trust (NYSEArca: FXE), which tracks the euro’s price movements against the dollar, is one of this year’s best-performing developed market currency ETFs. However, the common currency’s strength could be tested in the months ahead.
Part of the euro’s bull thesis is tied to the surprisingly weak dollar, which has struggled even against the backdrop of two interest hikes this year by the Federal Reserve.
The PowerShares DB U.S. Dollar Index Bullish Fund (NYSEArca: UUP), the tracking exchange traded fund for the U.S. Dollar Index, is getting hammered this year. UUP tracks the price movement of the U.S. dollar against a basket of currencies, including the euro, Japanese yen, British pound, Canadian dollar, Swedish krona and Swiss franc. Other currencies, including the Australian dollar, yen and Canadian dollar have recently been gaining momentum against the greenback. UUP is down 9.5% year-to-date.
Recent Commitments of Traders (CoT) data suggest traders are remain bearish on the dollar and bullish on the euro to extreme levels.
The week ended Sept. 15, “marked the eighth consecutive week of large speculators being net short the U.S. dollar, while the net long position on the euro is approaching decade-plus extremes. On the surface, this diverging sentiment on the two currencies is simply the extension of a “pro-Europe, anti-U.S.” investment trend we’ve been clocking for some time. But under the surface, it’s worth questioning whether the current CoT large speculator positioning is sending up any tradable contrarian flags for these two dominant currencies,” according to Schaeffer’s Investment Research.
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Germany and France, which account for half of Euro area GDP, is expected to surprise on the upside as growth picks up speed. Moreover, the lessening political risk in Europe, leading indicators like purchasing manager index, demand for loans and sentiment surveys all suggest that the market continues to improve.
“CoT large speculators currently maintain a net long position of 91,270 contracts on the euro, just off the 10-year high of 100,437 contracts set the week prior,” notes Schaeffer’s. “And while the current level of net long euro exposure is inarguably massive, it’s worth mentioning that earlier in 2007, peak net long euro positioning among large speculators topped out at 119,538 contracts. So, while this contingent is extremely net long at the moment, there’s still room for this trade to get even more crowded.”
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