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U.S. Dollar to Gain Ahead? ETFs to Gain/Lose

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The U.S. dollar strengthened to a two-week high lately versus a basket of major currencies as market watchers are betting big on a Fed taper sooner rather than later despite a surge in COVID-19 cases. This is especially true given that the European Central Bank (ECB) walked somewhat that way. The ECB will slow down emergency bond purchases over the coming quarter. This would be a step forward for the ECB toward unwinding the emergency aid that has shored up the Euro zone economy during the coronavirus pandemic (read: ECB Trims Support, Will Fed Follow Suit? ETFs in Focus).

Such a move by the ECB has every reason to trigger Fed’s taper talks. In any case, markets were abuzz with such speculation in August. The tapering move is more meaningful for the United States where inflation is running high.

Federal Reserve Bank of New York President John Williams said the U.S. central bank is likely still on track to slow the pace of its bond-buying stimulus effort this yearalthough he did not mention the timeframe. The Philadelphia Fed President Patrick Harker became the latest official to see the start of tapering this year, saying in a Nikkei interview, as quoted on Reuters (read: Top ETF Stories of August).

Plus, the spread of the Delta variant of COVID-19 is another concern, which may slow down global growth further. It appears to be a win-win situation for the greenback as the global health crisis has not dissipated yet. This fact provides support to the safe-haven trades. On the other hand, vaccination might reverse the economic slowdown in the United States and take the economy back to a faster growth path, which will boost the country’s currency.

Given the above-mentioned facts, the bullish trend in the greenback is likely to continue, at least in the near term.

ETFs to Buy

So, investors looking to play the strengthening U.S. dollar could consider the below-mentioned ETFs:

Dollar

The dollar strength can sure be played with Invesco DB US Dollar Index Bullish ETF (UUP - Free Report) and WisdomTree Bloomberg U.S. Dollar Bullish ETF (USDU - Free Report) .

Small Caps

Since small caps are closely tied to the U.S. economy and do not get affected by a rising dollar due to their limited foreign exposure, iShares Russell 2000 Growth ETF (IWO - Free Report) could be a good pick. Small-cap investing is more prudent at this time as several U.S. economic data points are decent (if not great) of late.

Dollar-Denominated Bond ETFs

Investors seeking EM exposure amid a strong dollar can consider dollar-denominated EM bond ETFs. These funds invest in sovereign debt from a variety of emerging nations via U.S. dollar-denominated securities. Notably, the debt route is less risky than equities. Moreover, most emerging markets have low debt levels compared to developed countries. iShares J.P. Morgan USD Emerging Markets Bond ETF (EMB - Free Report) is one such ETF. The fund yields 3.87% annually.

Currency-Hedged Japan

The global market rally has been weighing on safe-haven asset, Japanese yen. After underperforming for several months, Japan stocks have gained momentum lately on hopes of a stronger government ahead of a ruling party leadership race and a general election in November (read: Japan Topix Hits 30-Year High: ETFs to Tap).

The resignation of prime minister Yoshihide Suga has opened the door for the new government, which will likely unveil an economic package to support the pandemic-hit businesses and families. As such, the move has spurred bets on a strong economic recovery by the end of the year. If this happens, currency-hedged Japan ETFs like WisdomTree Japan Hedged Equity ETF (DXJ - Free Report) should do well.

ETF to Sell

Inverse Dollar Fund

Needless to say, if dollar rises, a short position on the currency would result in negative returns. Invesco DB US Dollar Index Bearish Fund (UDN - Free Report) should thus be avoided.