By Sarah Morgan
The euro slid to a nine-month low against the dollar earlier today, and a 10-year low against the Japanese yen, raising a question for many investors: Should I short the struggling currency?
Plenty of investing pros clearly think so. In fact, currency traders were betting against the euro to the tune of a $14 billion, the biggest net short position among the major currencies as of last Tuesday, according to the most recent data available from the Commodity Futures Trading Commission. Driving most of these bets, say analysts, are renewed fears that Greece may default on its debt and further destabilize the European – and global — markets. Tom Samuels, the managing partner of Palantir Capital, an investment advisory firm based in Houston, Texas, predicts more weakness ahead: If European leaders can’t agree on a new plan to rescue struggling countries, he notes, “the euro is in big trouble.”
But for most individual investors, shorting a currency is a risky proposition. For one thing, most retail currency traders tend to bet the wrong way, most of the time. In fact, they’re so reliably wrong that retail forex dealer FXCM has a Speculative Sentiment Index using the positions of its clients as a contrarian indicator. And when a bet goes the wrong way — even temporarily — that investor starts seeing losses. Those losses can be magnified by the use of leverage, which is common with currency bets. Using 50-to-1 leverage would mean controlling a $100,000 trade with a margin deposit of just $2,000. In a trade that size, a 1% move in the currency would be worth $1,000 – half the trader’s deposit.
Shorting an exchange-traded fund that tracks the euro is also tricky. Short-sellers generally pay interest to borrow the shares they’re betting against. That means shorting an exchange-traded fund costs money while the trade is open. If the ETF’s price rises while the trade is open, a short-seller may also get a “margin call,” which requires him to deposit more money to cover potential losses, or close the trade and take the losses right away. This all means that traders need pretty good timing to profit from a short bet.
The good news for savvy investors is that shorting isn’t the only way to play the weak euro. Here are three other strategies worth considering:
Currency ETFs: One way to bet against the euro, Samuels says, is to put your money on the U.S. dollar. He recommends doing that through the PowerShares US Dollar Index Bullish Fund (UUP). This exchange-traded fund tracks the dollar’s performance against a basket of other major currencies, including the euro.
Bonds: While some investing pros are hunting for bargains amongst the many beaten-down sovereign bonds, they should be “real cautious about trying to bottom-pick here,” Samuels says. All euro-denominated bonds would take a hit if Europe’s efforts to tackle the debt crisis hit a serious snag, he says. Another strategy: Buy British or Swiss bonds, which stand to benefit as fixed-income investors look for safe havens outside of the euro-zone, he says.
Equities: Stock pickers may want to consider European exporters, which would benefit from a weak euro, because it would make their products cheaper in global markets, Samuels says. But investors should steer clear of European banks and cyclical sectors that are most vulnerable to a recession, he says. Generally, sectors like industrials or consumer discretionary stocks are considered more exposed to boom-and-bust economic cycles than “defensive” sectors like utilities or health care. Unfortunately, investors are on their own when it comes to stocks, Samuels says; he hasn’t seen an ETF that would capture this idea while avoiding the risk of a slowdown. “Investment selection is really critical for stocks,” he says.