EUR/USD Hits 8 Month High
Euro against the US Dollar (EUR/USD) started a mild bull rally after Greece accepted and ratified through parliament the stricter conditions imposed on its third bailout. In addition, recent economic data from the United States has been weaker than expected causing EUR/USD to move from August lows at 1.0847 to today’s high at 1.1712. The prospect of a US interest rate hike and a strong economy is what was pushing the EUR/USD to its 1.08 lows (and as low as 1.0456 in March) but this stance appears to have changed in the last few days.
The strength in USD across the board has been based upon economic strength in the US that has had an average GDP growth of 2.5% over the past two years while the Euro zone has had a GDP growth of around 0.5%. However, this may have caused an oversold EUR/USD price. Recent data shows that the US economy is not heating up as much as previously thought, especially employment numbers which Federal Reserve chairwoman Yellen has repeatedly stated will be the main metric to take decisions on the timing for interest rate increases. Last ADP (Automated Data Processing Inc) data for employment of private jobs showed an increase of 185k new jobs, considerably lower than the previous month of 229k new jobs and non-farm payrolls this month showed an increase 215k jobs in line with expectations but lower than last month’s 231k.
Interest rate hikes in a reduced economic activity environment will only make things worse and reduce GDP growth when inflation is not yet a concern. This possibility is what has been affecting the US stock market over the past three days, with considerably large successive drops in the S&P. This also caused the USD to be sold against the Euro and has added extra momentum to this currency pair that was already in a minor bull trend.
There is more data expected during the week that may shed more light on the state of the US economy, Tuesday sees PMI (purchasing managers index) and Consumer Confidence, Wednesday Durable Good orders and Thursday we have a string of data, GDP growth, PCE (Personal Consumption Expenditures) and initial Jobless Claims.
The following examples describe how you may take advantage of price action.
Option 1 - Trading an Uptrend
If you think the EUR/USD rally will continue and we will see higher prices over the coming week you may buy a Call option which gives you the right to buy the pair at a specific price (strike) with a specific date (expiry) for a chosen amount. From the screenshot you can see that a Call option on EUR/USD with a strike of 1.1650, expiry 4 days, for 100,000 euro would cost a premium of 470.15 USD.
If EUR/USD rises above the 1.1650 strike the option’s premium value will rise and you may sell it (& close the trade) to lock-in profit. If the pair does not rise, the option’s premium value will decline as it heads towards expiry. Your maximum risk is the 470.15 USD premium paid at open.
Option 2 - Trading a Downtrend
If you think EUR/USD may see a correction over the next 4 days, on the back of stronger than expected US data, then a possible strategy would be to buy a Put option which gives you the right to sell the pair at 1.15 until the end of this week. As the market falls the Put options value increase.
Further more, you could convert this into a 'Bear Spread' strategy by selling a Put option with a lower strike price at the same time as buying a Put option. Say you sold a Put with strike 1.14 you would receive premium which makes the total position cheaper (i.e. less risky). This example is shown in the screen shot below; the buy Put leg costs 410.44 USD and the sell Put leg receives 74.19 USD hence the total position costs a premium of 336.25 USD.
This common option strategy known as the ‘Bear Spread’ allows traders to take advantage of a falling market on a reduced limited risk but note that profit is also limited by the sell Puts strike (in this case from 1.1400 and below).
To practice trading options open a FREE demo account.