Riding trends is turning out to be the best way to make money in the $5.3 trillion foreign-exchange market.
After a brief lull, momentum trading has stormed back to the fore this quarter by gaining 1.6 percent, aided by appreciation in the pound and the dollar against the Australian and New Zealand currencies, according to a Deutsche Bank AG measure. The strategy has returned 4.4 percent year-to-date, topping the 0.9 percent gain from strategies that buy currencies with the lowest purchasing power, and the 9 percent loss from trades that seek to exploit interest-rate differentials.
Momentum trading has gained traction as concern eased that Greece might be forced out the euro zone and focus returns to the theme of monetary-policy divergence. With U.S. and U.K. officials seeking to boost rates for the first time in almost a decade at the same time the European Central Bank and the Bank of Japan plow on with monetary stimulus, the dollar and pound are back in favor with traders.
“The momentum strategy now is really that people are pursuing a strong dollar,” said New York-based Irene Aldridge, managing director and quantitative portfolio manager of ABLE Alpha Trading Ltd. The firm creates algorithms for clients from institutional investors to banks and employs them to manage their own in-house assets. “That’s where we are seeing a lot of returns.”
Trend-following strategies, which often use computer models to identify patterns in markets, are on course to book profits for the third straight year after rebounding from a second-quarter slump that was fueled by weaker-than-forecast U.S. economic data.
The currency has regained steam as a strengthening employment outlook boosts the likelihood that the Federal Reserve raises interest rates next month. The Bloomberg Dollar Spot Index rebounded 2.3 percent in July, after slipping 0.9 percent the month earlier. The index is up 6.7 this year after an 11 percent gain in 2014.
“There’s been a tendency for themes to take shape,” Alan Ruskin, global head of Group-of-10 foreign exchange at Deutsche Bank in New York, said in a telephone interview. The dollar rally has shifted “from a very weak-yen story, to a fragile-five story, to a weak-euro story, to now a weak-commodities-currencies story. There’s some sustainability to each of these stories, which is encouraging some momentum-related trades.”
Britain’s currency has climbed 6.7 percent during the past three months against a basket of its Group-of-10 peers tracked by Bloomberg Correlation-Weighted Indexes, rising to the highest level since 2007 last month versus the euro.
“It has been a good time for momentum with July a very strong month,” said London-based Michael Sneyd, a foreign-exchange strategist at BNP Paribas SA. “If you’ve been trading a portfolio using these indicators, it has outperformed,” said Sneyd, citing his bank’s systems for capitalizing on sustained movements in exchange rates.
The currencies of nations linked to commodities, such as the New Zealand, Canadian and Australian dollars, have extended losses this year as the prices of crude oil and industrial metals slide. Many of these currencies are also under pressure as commodity-exporting nations cut interest rates to support growth.
“I wouldn’t want to say this is a sort of ‘shoot the lights out’ year,” said James Wood-Collins, chief executive officer of U.K.-based currency manager Record Plc, which has $56.2 billion in assets under management. “But we can certainly see the currency-market environment as creating the foundations and opportunities of a more-supportive market for currency-return strategies than it has been the case in quite some time.”
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