How to capitalize on the spike in central bank hawkishness

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  • The ECB carried out its biggest single rate hike in history earlier today
  • The Fed is expected to follow in the footsteps of its European counterpart and raise rates by 75 basis points at its September meeting
  • The US dollar and the global banking sector are among the biggest winners in such an environment

Earlier today, the European Central Bank (ECB) decided to hike 75 basis points. The move is the only rate hike in the Frankfurt-based central bank’s history, tied with 1999.

The region faces rising energy costs and potential supply shortages due to Russia’s war in Ukraine. All of this raises fears of a slowing economy, and surveys show that factories are already slowing down as consumer purchasing power deteriorates.

Macroeconomic data earlier this week showed a decline for the sixth consecutive month, raising concerns about growth prospects. Additionally, the fell to 44.2, a fourth straight month of decline and the steepest since January last year.

Meanwhile, the Federal Reserve will also decide at its next meeting on September 20-21. Barring any surprises in upcoming US data, it will likely impose another 75 basis point hike.

In August, Fed Chairman Powell said there should be no doubt that the Fed was not about to stop its efforts to reduce inflation and that it could continue to rise rates throughout 2023. The statement raised market expectations that the Fed would raise interest rates another 75 basis points (making three consecutive increases of this magnitude).

Cleveland Fed Chair Loretta Mester recently said the Fed is fully committed to fighting inflation and supports raising interest rates above 4% early in the year. next year and their maintenance. In a moment of utmost honesty, she also acknowledged that the Fed’s earlier analysis was incorrect and that it should have started raising interest rates sooner.

In this context, investment alternatives centered on the banking sector and on the dollar offer significant growth potential.

How to take advantage of the strength of the US dollar

The remains one of the strongest currencies so far this year.

The main reasons for the rise in US-backed currencies are the Federal Reserve’s monetary policy of aggressively raising interest rates and the fact that the greenback is acting as a safe-haven asset in a tough year.

Three facts prove this point:

  1. The dollar weakened against the dollar, reaching its lowest level since August 1998 and extending the depreciation since the beginning of the year to more than -20%, weighed down by the widening of the policy gap between the Fed and the Bank of Japan.
  2. The price remained close to $1.15, the lowest level since 1985.
  3. The fell below $0.99 for the first time in nearly 20 years.

Through ETFs and funds:

  • WisdomTree Bloomberg US Dollar Bull Fund (NYSE:)

USDU is an exchange-traded fund incorporated in the United States. The fund is actively managed and seeks to provide a total return, before expenses, in excess of the performance of the Bloomberg Dollar Total Return Index.

It is structured to potentially benefit from the appreciation of the US dollar against a basket of global currencies.

The fee is 0.5% and it began to exist on December 18, 2013.

So far in 2022, its return is +11.86%.

  • Invesco DB US Dollar Index Bull Fund (NYSE:)
UUP weekly chart

The fund is designed for investors looking for a convenient way to invest in the US dollar and track its value against a basket of the world’s six major currencies: the euro, the Japanese yen, the pound sterling, the , the and the .

It was launched on February 20, 2007 and its commission is 0.75%.

This year, it cumulates +14.90%.

Thanks to the dollar index

DXY Weekly Chart

The dollar index is a measure of the value of the US dollar against the value of a set of currencies belonging to most of the largest trading partners of the United States.

It is therefore a weighted geometric average of the value of the dollar against a range of currencies:

  • Euros 57.6%
  • Japanese yen 13.6%
  • British Pound 11.9%.
  • Canadian dollar 9.1%.
  • Swedish krona 4.2%
  • Swiss franc 3.6%

Thus, the index allows investors to see the evolution of the greenback against a group of currencies.

Since its inception in 1973, the index has risen and fallen sharply, reaching its highest point in February 1985 with a value of 164.72 and its lowest point in March 2008 with a value of 70.698.

You can trade this index via futures contracts, and its mechanics are the same as if you were investing with futures contracts on other markets.

The dollar index continues to gain ground and is above the 110 area, reaching levels not seen since June 2002.

Leveraging the global banking industry

The banking sector is the most favored by the increase in interest rates since banks increase the brokerage margin, that is to say the difference between the interest paid by the bank to those who borrow money and the interest charged to those who lend it to them.

Let’s take two funds:

Algebris Ucits Weekly Chart
Algebris Ucits Weekly Chart

The fund manager invests in the banking sector, in banks around the world, so that the unitholder can also benefit from interest rate increases by other central banks outside Europe.

The fund was created on April 17, 2015 and its benchmark is the Lyxor MSCI World Financials (SIX:).

Its geographical distribution is diversified: United States (44%), euro zone (35.81%), United Kingdom (9.58%), Asia (4.82%) and Latin America (2.23%).

The commission is 1.02% and its performance over the last 12 months is 4%.

Fidelity Global Financial Services Fund Weekly Chart
Fidelity Global Financial Services Fund Weekly Chart

The fund aims to provide investors with long-term capital growth by investing primarily in equity securities of companies worldwide that provide financial services.

It was created on April 20, 2016 and its 3-year annualized return is 8.59%.

Its benchmark is , and its fees are 1.91%. Its geographical distribution: United States (60.6%), United Kingdom (10.02%), Euro Zone (9.52%) and Asia (10.41%).

Disclosure: The author does not currently hold any of the titles mentioned in this article.

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