Palisade Research - Thu, Feb 8, 2018

This is How I'm Betting on the Next Currency War

painting of two viking ships navigating a dangerous sea surrounded by icebergs

The US Dollar has on all accounts entered a bear market.

So, what do you do next?

One of my favorite investing stories is what George Soros did back in the mid-1980's - and no I'm not talking about how he broke the Bank of England.

This was how he made most of his fortune in the early days - he positioned himself against a weakening US Dollars.

He saw two steps ahead of the market.

But the writing was on the wall for those who cared to look. . .

"In his September 28 entry, Soros describes the Plaza accord coup as "the killing of a lifetime . . . the profits of the last week more than made up for the accumulated losses on currency trading in the last four years . . ." said George Soros — Global Speculator (The Money Masters).

Here is some history.

By 1985 the US Dollar was overvalued. This was because then Federal Reserve Chairman Paul Volcker rose rates to kill the plague of inflation.

He hiked short term interest rates up to 21% and the US Dollar soared.

It worked to end the severe inflation - but it sent the US economy spiraling into a recession, mounting trade deficits, and almost killed the US exporting sector.

It was unsustainable.

That's why global leaders got together and created The Plaza Accord.

This was a currency agreement between the U.S., Japan, Germany, and other leading economies.

The agreement was to systematically weaken the USD against their currencies.

"During his tenure, Reagan struck the 1985 Plaza Accord currency deal with Japan, Germany and other major trading partners that brought down the dollar's value and encouraged more foreign companies to set up U.S. manufacturing plants. . ."

And it worked. . .

Over the next several years the US Dollar weakened over 42% - and because of this - U.S. foreign trade improved almost 50%.

line chart of indexed foreign exchange rates (GBP, FRF, DEM, JPY) versus the US Dollar from 1981 to 1991

Soro's knew that this was coming because he knew that the 'King Dollar' was killing the U.S. economy.

He positioned himself just right to take advantage of the opportunity many didn't see - or care to look.

That's what you need to do today - because it's all happening again right in front of us.

Since 2014 when the Federal Reserve began talking about raising rates, ending the 7 years of zero-interest rate policy - the dollar has soared 30%.

But since January 2017 - 13 months ago - the US Dollar is down 12%. . .

line chart of the US Dollar Index (DXY) from January 2, 2017 to February 2, 2018

Despite several Federal Reserve rate hikes, the US Dollar is continuing to slide.

And as we have written about - it's only going to get worse from here. . .

This opens up opportunity to investors that understand the cycles over currencies.

The free-floating currency exchange system that exists since 1971 means all currencies work relative off each other.

So a weak US Dollar means a strong Euro and Yen.

That's why I bought shares and call options on the CurrencyShares Euro Trust (FXE).

When the US Dollar soared from 2014 to 2017, the Euro collapsed 29%. . .

line chart of the EUR/USD cross rate from 2014 to now

That means when the Fed raised rates, Investors sold their Euros and bought US Dollars.

Now that the tables are turning - you can see that a weakening dollar is causing a soaring Euro.

Honestly, I don't even like the Euro or the Yen.

But my job is to analyze what's going to go up and down.

Expect to see this trend continue as the new 'currency war' kicks off. . .

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