We finally have a meaningful pullback in the currency market and I strongly believe that rather than being a top, this is an opportunity to add to short dollar positions. The currencies that I am the most bullish the dollar against are the Australian dollar and British pound.

Australia reported hot GDP numbers last night and the combination of Chinese demand and soaring gold prices will add further fuel to the Aussie’s move. New Zealand is also a big commodity producer and they recently got taken off the negative watch list by Standard and Poor’s, which should pave the way for further gains. As for the British pound, service sector PMI moved back into expansionary territory, which is the first signal that the U.K. recession may be over. When you compare these solid figures to U.S. data, it is becoming increasingly clear that the U.K. could leave the U.S. in the dust.

The higher probability opportunities however are in the crosses because the rally in the dollar could last for another 24 hours. In the AUD/USD for example, the uptrend would remain intact as long as the currency pair does not close below 80 cents. In the GBP/USD, the level to watch is 1.6150.

Better opportunities in the crosses

Fundamentally, the Australian dollar and British pound should also outperform the Euro because of the prospect of unconventional measures from the ECB and the trouble that is brewing in Central Europe (Latvia had 4 failed bond auctions). Unlike Australia, the Eurozone is not benefitting from the shelter of rising commodity prices and the economy is still suffering.

Another opportunity also exists in AUD/NZD, which has seen a tremendous rally today. The Australian economy is outperforming New Zealand from all angles and even though the RBA warned about cutting interest rates, they did not express any concern about the rally in the Aussie. New Zealand on the other hand has a history of intervening in their currency and could resort to verbal intervention at their monetary policy meeting next week. Take a look at the following chart of AUD/NZD (orange line) against swap rates (white line) courtesy of Deutsche Bank:

 

Kathy Lien is Director of Currency Research at GFT, and runs KathyLien.com.