By Nicholas A. Vardy, CFA
If there is one single overarching theme over the past few years, it's that the U.S. dollar has risen substantially against all major currencies. Ironically, this is precisely the opposite of what was predicted by the gold bug and "demise of the dollar" crowd.
What they missed is that currency valuation is a relative game.
For the U.S. dollar to fall, other currencies have to get stronger.
And today, even as the Fed has pulled back from quantitative easing, the QE policies of both the European Central Bank and the Bank of Japan have hammered the euro and the yen compared to the U.S. dollar. And with the first Fed rate hike in almost 10 years coming up, it is unlikely that the U.S. dollar will be pushed down any time soon.
That's why the continued strength of the greenback remains my No. 1 long-term recommendation in the currency markets.
And the easiest way to piggyback on the U.S. dollar's strength is via the PowerShares DB US Dollar Index Bullish Fund /zigman2/quotes/209727862/composite UUP +0.22% .
A Big Mac hedge fund
That said, active currency traders have a different playbook, as they would be making shorter-term, specific trades in some of the biggest, most widely held currencies.
If you'd trade off the "Big Mac Index," you'd buy undervalued currencies and then sell overvalued currencies. You would then concentrate on the highly liquid, "big six" currencies, which consists of the Swiss franc, British pound, Canadian dollar, euro, Japanese yen — and, of course, the U.S. dollar.
And here's what you would trade:
Sell the Swiss franc /zigman2/quotes/202079537/composite FXF -0.34% , which is the only major currency that remains very overvalued.
Stay neutral on the British pound sterling /zigman2/quotes/205988498/composite FXB -0.12% and the Canadian dollar /zigman2/quotes/202089315/composite FXC -0.18% , as they are only slightly undervalued on a PPP basis.
Buy the euro /zigman2/quotes/208198139/composite FXE -0.34% and the Japanese yen /zigman2/quotes/200725153/composite FXY -0.08% , as they represent a sound long-term bet on an undervalued basis (the euro by 15.4% and the yen by 37.7%).
Buy the dollar via the PowerShares DB US Dollar Index Bullish Fund /zigman2/quotes/209727862/composite UUP +0.22% .
Yet there is a huge caveat here. With their respective QE programs, both the European Central Bank and the Bank of Japan still very committed to driving down the euro and yen. So buying FXE or FXY is actually an extremely contrarian trade.
So, in my view, the surest bet remains staying long in the U.S. dollar.
But even if you don't trade currencies, here is some more practical advice:
There's been no better time in recent memory to get that passport out and travel abroad. For U.S. tourists, McDonald's Happy Meals haven't been this cheap since 2003.