Last week was not very fun for me, booking losses on short USD/MXN positions and buying USD/JPY on weakness only to fall victim to a larger pullback. Last week was all about profit taking for Japanese investors. The Nikkei sold off to the tune of 7.5 percent on Thursday. (After being up over 3 percent the same session). Japanese investors were also net sellers of foreign securities; more profit taking given the that the weak JPY makes overseas holdings very dear in Yen terms.
In general we have a market that seems desperate to get long the USD. This is understandable, given that among advanced economies, the US has clearly emerged as the dog with the least amount of fleas. Indeed, the mere hint of a slowing of the Fed's QE programs has spooked equity markets and resulted in broad USD strength. To be sure, doves outnumber hawks on the FOMC, and Bernanke has stressed repeatedly that a decision to slow asset purchases would be based on strong economic data. However, the fact that Mr. Bernanke is ready to talk specifics on the Fed's exit strategy has sent markets into a USD buying frenzy. Strong economic data will now be even more USD positive, especially against JPY, EUR, and GBP. CAD and MXN, which have continued to rise on good US data even after the calming of the Eurozone crisis will be key indicators of the market's mood on the greenback. A fall of either of these relative to the USD on strong non-farm payrolls would indicate a market highly bullish on the USD.
Given these realities, last week I cut down my short USD/MXN position, and bought USD/JPY so that I would be net long the dollar. I also initiate a small long EUR/CHF position. This pair has found strong support at 1.24, and SNB policy assures limited downside. I still like MXN, especially since I believe the recent slowdown is probably a delayed reaction to the Q4 contraction in the US. However, being short USD in the face of a such bullish sentiment is a dangerous game.
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