Friday September 25, 2020 - 12:27:32 GMT
Share This Story
Global-View.com - www.global-view.com
Alert: Will Month End Flows Boost the Dollar?
Have you ever heard of the term “month end rebalancing?”
According to Investopedia, Rebalancing is the process of realigning the weightings of portfolio of assets. Rebalancing involves periodically buying or selling assets in a portfolio to maintain an original or desired level of asset allocation or risk.
Many international equity managers like to minimize the forex exposure of their equity portfolio and put on forex hedges to reduce that risk. Thus, at the end of each month they adjust the size of their hedges to bring them back into line with the current size of their portfolio.
With the dollar trending lower until recently, international fund managers investing in US equities would likely be more inclined to hedge portfolio positions that creasted long dollar exposures.
What does the mean for the forex trader?
For the forex trader, the focus is on whether forex hedges need to be reduced or increased at month end. As a rule of thumb, if US stock prices increase during the month, short dollar hedges need to be increased (I.e. dollar selling) and vice versa if US equity prices fall during the month (I.e. dollar buying). Some adjust the hedges dynamically during the month and others do it on the last trading day of the month. Our focus is on the latter.
For example, say a foreign fund manager is long $1 mln worth of US stocks at the end of August and fully hedges the forex risk by being short the equivalent US dollars vs. his base currency (e.g. the euro). Stocks fall sharply by10% during September and the stock portfolio is valued at $900,000. This leaves the fund manager over hedged by $100,000 so he has to buy that amount of dollars (e.g. vs. the euro) to fully hedge the forex risk.
End of September rebalancing
If US equities maintain the sharp declines into month-end, the assumption is that there will be dollar buying to adjust forex hedges. This may be complicated by quarter-end flows, which are less clear so let’s stock to month-end rebalancing.
As of this writing, DJIA is -6.4%, S&P –7.5%, and NASDAQ –7.4 % on the month (Addendum Sept 28: Stocks have firmed since this article was written but are still lower on the month).
How to use this knowledge to trade
Logic says, at a minimum, the anticipation of dollar buying should be a limit on the dollar downside, especially the closer we get to month end,. While much depends on other news and trends, traders will assume month-end dollar demand. This knowledge can prove invaluable to forex traders.
Note on month-end (I.e. September 30), most if not all rebalancing of forex hedges are completed by the 4 PM London fix.
In any case, we are not privy to the actual flows so all we can do is assume rebalancing this month will lead to dollar buying due to the sharp rise in US equities. As an outsider, we will be on the lookout for month-end dollar buying without knowing in advance vs. which currencies will be in demand.
If you are looking for clues to which currencies are to be sold and the timing of such flows, you need to get access to The Amazing Trader and its AT Ladder Strategy Guide. I have found it to be the closest I can get to trading as if I have access to inside information without being privy to the actual flows.
Please feel free to contact me with any questions or comments.
Forex Trading News
Daily Forex Market News
Forex news reports can be found on the forex research
headlines page below. Here you will find real-time forex market news reports
provided by respected contributors of currency trading information. Daily forex
market news, weekly forex research and monthly forex news features can be found
Real-time forex market news reports and features providing
other currency trading information can be accessed by clicking on any of the
headlines below. At the top of the forex blog page you will find the latest
forex trading information. Scroll down the page if you are looking for less
recent currency trading information. Scroll to the bottom of fx blog headlines
and click on the link for past reports on forex. Currency world news reports
from previous years can be found on the left sidebar under "FX Archives."