Dollar Doldrums

With last Wednesday’s release of the FOMC meeting minutes, as well as, the on-going drama in Greece, investors can be forgiven for overlooking the subtle shift in the market this February that could threaten to upset investor allocations.  After reviewing the ETFG Behavioral Top 25, we’re wondering if a major shift in investor attitudes towards currency risk could soon take place and what profound impact it could have on performance going forward.

The large number of healthcare and biotechnology funds that dominated the ETFG Behavioral 25 list in 2014 has been steadily eroded - 5 of the top 10 places are now held by European equity funds.  More surprising is the make-up of the funds on the list; despite a blistering 34.38% advance since it’s low on January 30th, the Global X FTSE Greece 20 ETF (GREK) is nowhere to be found as the recent improvement in momentum can’t quite overcome declining short-interest.

Only two funds offering exposure to specific European national markets, the iShares Currency Hedged MSCI Germany ETF (HEWG) and the iShares MSCI Netherlands ETF (EWN) made the top 25.  While both funds have underperformed the broader iShares MSCI EMU Index (EZU) so far up 6.35% this month or the hedged equivalent (HEZU) that is up 5.61% in February not to mention other iShares market specific funds, EWN and HEWG do offer one attractive feature namely lower risk.  Both funds have lower ETFG Red Diamond Risk ratings than EZU, HEZU or nearly any other European equity fund.

Despite the massive inflows into our current #1 ranked fund, the WisdomTree International Hedged Equity Fund ETF (HEDJ), the bulk of the European equity funds on the list offer unhedged currency exposure.  Another outcome of the shift in investor focus towards Europe has been the loss of momentum by the PowerShares DB US Dollar Index Bullish ETF (UUP) which is setting up for its first monthly decline since June of 2014, down .68% so far in February versus a .65% advance for the Guggenheim CurrencyShares Euro Trust (FXE.)

Consider the second order effects of a weakening dollar, especially on the materials sector that has not so quietly taken over sector leadership with the Materials Select Sector SPDR (XLB) up 8.89% in February versus 5.78% for the broader S&P 500.  And while the small rally in commodities such as copper, corn and crude has boosted XLB, it’s had more of an impact on commodity dependent economies with the iShares MSCI Australia Index Fund ETF (EWA) and the iShares MSCI South Africa ETF (EZA) making our top 25.  Neither fund offers a great deal of materials or energy exposure (EWA has 3X exposure to banks than mining), but do offer exposure to two currencies that have each lost over 23% of their value during the last two years thanks to their economies dependence on supplying natural resources to the rest of the globe.

To take advantage of rising commodities or a falling dollar, check out three names from this week’s ETFG Behavioral Quant Movers: the First Trust Canada AlphaDEX ETF (FCAN), the Global X FTSE Argentina 20 ETF (ARGT) and iShares MSCI Chile Index Fund ETF (ECH.)  The economies of Canada, Chile and Argentina have long been associated with supplying natural resources and suffered accordingly in 2014 as a slowing global economy and rising dollar hampered demand.  All three funds have outperformed broader equities indices but for a host of country-specific factors, they still have underperformed the broader commodity complex and could offer additional value to the brave investor.  Brent has bounced over 14.6% in February but energy prices are still well below the production cost per barrel for the Canadian tar sands and continue to weigh down FCAN thanks to its 30% energy allocation despite the Loonie’s 1.5% bounce this month.  While copper and agricultural commodities may have bounced 4% in February, local politics play more of a role south of the border where a loan scandal threatens to derail populist reforms and increase uncertainty in Chile while Argentina remains Argentina.

Thank you for reading ETF Global Perspectives!