For a couple weeks now we’ve been following the play on the AUD/USD based on the theory that debt solutions would save the EUR. That would result in a weaker USD.
While the trade was delayed a week, we stayed with the AUD/USD, as it became crystal clear this week as several debt deals were agreed upon from the EU meetings. This includes some major breakthroughs in settling the Greek debt issues. Stock markets shot up while a lot of optimism returned to investors and traders alike.
Since the AUD/USD moved above our entry we are up 250 pips. That’s a great trade by anyone’s standard.
There are also good reasons to believe this carry trade will continue to work for us.
The core of this trade is actually the relationship between the USD and the EUR.
These two currencies have gone back and forth since the Euro’s creation. Seen as a legitimate option to the USD, this meant that a strong EUR could actually replace a strong USD as a benchmark currency. When the EUR was trending sideways because of the negative debt news, the breakthrough on the Greek debt and belief of more relief to come sent the EUR skyrocketing against the USD. A weaker USD meant the AUD/USD carry trade has worked out beautifully for those of us who jumped on this carry trade opportunity.
The Greek debt issues were resolved by getting banks to agree to a 50% loss. This gives Greece a chance to actually crawl out from their crushing debt burden. This is critical to getting their economy back on track and growing. This deal does a lot to help the overall debt issues that the EU has been struggling with recently.
This also means that the banks will be responsible for raising over $148 billion to recapitalize. This will ensure that every bank has the legally required amount of currency on hand to operate and cover all their expenses. The countries in the EU would also do their part by upping their contributions to an emergency bailout fund to push those funds up to $1.4 trillion in case they are needed for future debt reduction measures.
At this time, there’s no reason to change course.
The United States did come out with some strong reports that should in theory strengthen the USD, but the trade held because the EUR news was that much better. The EUR had been trending so negatively with little expectation of good news, that the sudden burst of very good news from Europe led to the EUR growing much stronger even in the face of the USD gaining positive news.
This is great news for this trade as it shows that even a mildly stronger USD might not keep this trade from stalling out. Further confidence from the Euro-Zone will only help this trade hold up; and even sideways movement can help still be profitable because of the carry trade aspect of this trade.
You still need to keep watching out for unexpected negative news from the EUR, or extremely unexpected positive news for the USD. Either of these could lead to a sudden reversal in the upward breakthrough that we’ve been profiting from.
If this sudden reversal occurs, then it’s time to get out on the trade and cash out on the profits we’ve already made. However, until either of these two major movements occurs, there isn’t any reason to abandon this trade ahead of time. In fact even if the movement flattens out and goes sideways, you’ll be able to keep making daily interest off of this currency trade. That’s not a bad profit to bank.
Further good news on the European debt issue will help this trade.
Any major economic reports showing major good news for Europe will only help to support this trade and continue to make it a winner. The same can be said about any negative news on the USD, as a weaker USD has the same effect on this trade as a stronger EUR. Either way, our position on the AUD/USD still holds up to either situation.
Right now the right move is to hold and see where the trade continues to go. While most people can’t be blamed for wanting to cash out while way ahead, there’s no reason to believe right now that this trade is going to sour. Optimism continues to grow for the EUR handling the debt crisis fully and getting back on track.
The biggest concern at this point with this carry trade is probably watching out for an unexpected, but extremely strong, economic report from the US.
This could strengthen the USD especially now that the EUR has already received their good news on the debt crisis. If you see a lot of good USD news, then you definitely want to watch how the AUD/USD reacts. The same is true if any negative debt news shows up again for Europe.