Two Protective Currency Plays to Make Ahead of the Looming Recession
Currencies / Forex Trading Sep 23, 2011 - 07:12 AM GMTBy: Money_Morning
Sean Hyman writes:
There's a hurricane headed for the U.S. economy, one that'll send stocks tumbling and rip gains out of your portfolios - especially if you aren't ready with some protective currency plays.
The "hurricane" I speak of is the looming recession.
You see, the U.S. gross domestic product (GDP) annual growth rate has fallen for the past four quarters. The last time that happened, in 2008, growth fell to a negative rate for the following six quarters.
So when the rate of growth starts to slope downward, and then stays in place for a couple of quarters, you can bet a recession is on the way.
Much like no one can prevent a hurricane, you as an individual investor can't prevent a recession. But you can calmly prepare for it well in advance, so you're ready for the worst - and that's exactly what we're going to do.
How to Defend Your Portfolio
There are four easy moves to make now to protect your investments from the looming recession:
•Get off of margin; make sure you own all of your investments outright without any margin loans paying for some of your stocks.
•Take some profits and raise the level of cash in your portfolio.
•Hold some defensive stocks that weather the storm better, like dividend stocks and big-name multinationals.
•And, most importantly, add currencies to your portfolio that will prosper when the recession hits.
To find the best protective currency plays to prepare your portfolio for the inevitable economic mayhem , let's look at what worked during the last dip in economic growth.
Two Protective Currency Plays for the Recession
When the U.S. GDP growth rate dipped into negative territory in the final quarter of 2008, it remained negative for all of 2009.
This hit Canada's oil profits and did some damage to the Canadian dollar when it was paired with the U.S. dollar, as seen in the accompanying chart. When the USD/CAD rises, it means the dollar is rallying, while the Canadian dollar is falling by comparison.
By buying the USD/CAD pair, you can breath e life back into your recession-stricken portfolio . While everyone else is suffering, you're sitting pretty with a nice hedge for the rest of your portfolio .
Along with buying the USD/CAD pair, you can also short a "currency cross" like the Canadian dollar vs. the Japanese yen (CAD/JPY).
Remember, the Canadian dollar dropped during the last recession. However, when recessions are in full swing, defensive currencies tend to "rule and reign."
Above we paired the Canadian dollar against the defensive buck. In this second chart, I've shown what happens when the Canadian dollar is paired with the defensive Japanese yen.
In fact, CAD/JPY is already starting to break down yet again. This month it started falling below a support line that it's held for two and a half years.
Why is it doing that? It's because the U.S. GDP has been slowing down for three quarters .
Remember, GDP trends are hard to reverse. Once an economic decline starts, it doesn't quickly reverse. So the chances that the next GDP reading gets closer to zero are very high.
Savvy investors realize this and start shorting the CAD.
So whether you're buying USD/CAD or short-selling CAD/JPY, make sure you're preparing your portfolio for what's to come. As economies shrink and stocks come crashing down, you'll find that protective currency plays like the USD/CAD will help take the sting out of your portfolio.
[Bio Note: With the global economic outlook growing increasing bleak, many readers have asked us about currency trading. So we decided to respond by bringing on a new currency expert - Sean Hyman.
Hyman is a veteran currency trader with more than 20 years of experience. He also currently serves as Investment Director for World Currency Watch, and editor of Currency Cross Trader. Watch for his columns on currency trading in Money Morning.]
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