In this weeks report I want to take a closer look at the trading opportunities that may be developing within my three favored commodity proxy FX pairs.
Last weeks robust read on the US jobs picture saw the USD surge to seven month highs. The impact on the three commodity currencies suggests that there is opportunity developing. Gold plumed three month lows and is close to hitting our adjusted downside target of 1080. Oil’s response to the last weeks data and the elevated implied probability of a December lift off from the FED was more muted.
On balance the commodity bloc still faces head winds that will likely precede broadly easier monetary policy stance from the local central banks. Specifically the RBA, RBC and to a lesser extent the RBNZ. Commodity prices in general are viewed as trading at ‘lower for longer’ levels as demonstrated by Golds decline post Friday’s NFP release.
The heavily commodity dependent economies of Canada, Australia and New Zealand are in a process of rebalancing their reliance on commodity income. The immediate approach to arrest the impact of the declines is for these central banks to reduce interest rates, this has the read through of protecting local currencies derived commodity income and precedes the required repricing to facilitate competitiveness in non commodity sectors.
Despite the recent reduction in the velocity of the declines in the Loonie Kiwi and the Aussie, the sizable swings south witnessed in the pairs since the summer of 2014 has been broadly welcomed by the domestic central banks. Market watchers believe that these nations domestic non commodity export channels have proved less sensitive to the currency declines, suggesting that the FX deprecation strategy whilst working still has some way to go before rebalancing could be considered effective.
In the near term it will remain challenging for the rise in non commodity exports to counter balance the declines in revenue from commodity related export channels. Hence, in an environment where commodity prices are deemed to be in a phase of lower for longer the rational read through is that commodity FX pairs should experience the same, as central banks will need to remain accomodative to promote non commodity related export growth.
The Canadian economy continues to remain overshadowed by its US neighbor. The precipitous decline in the price of Crude is the major point of pressure, that immediately impacts domestic business investment, with crude floundering further this is likely to garner a negative feedback loop in internal business investment, which will likely weigh further on economic output. The green shoots of non commodity export are still just that ‘green shoots’ and there is sufficient scope for the Bank of Canada to act further to encourage these early positive signs.
Now we have a broad understanding of the fundamental drivers for the loonie lets take a look at the chart and see where the technicals and fundamental fuse for a high probability trading opportunity.
I am monitoring price action as we attempt to retest the year to date highs, I am anticipating that we will find supply at or just above the 1.3450 level and that we will get a second phase of corrective action that should see price retrace and test the ascending trend line and horizontal support zone highlighted in the chart below at the 1.29 level where I will be looking to align with the broader trend and position on the long side to target a move to the topside of the projected channel.
The Australian economy continues to shows the signs of duress driven by the declines in overall commodity prices, this is most clearly highlighted in the continued draw down of Australia’s external accounts. GDP registered a meager zero point two percent gain the second quarter of 2015, as national income growth continues to slide leaving domestic demand to turn down further. Market watchers believe that these bearish growth trends are likely to persist in 2016 driven by reduced business investment, a worrisome housing cycle and population growth challenges. Spare capacity and emerging disinflationary pressures are likely to keep the RBA in play in the near to medium term.
From a trading perspective it appears that the Aussie has the potential to replicate a false base that we last witnessed at the beginning of this year. There looks to be a near term loss of downside momentum and if we overlay a price and time square mirroring the scale and scope of the last corrective phase of this nature, it suggests we could hold current levels or a retest of the lows to grind higher into December, this time map would be confluent with a potential FED move in mid December as you can see from the chart below.
In the near term I will look to position on the long side of a successful retest of the .69/.70 level for a grind higher to test the .75 area into the December FOMC decision.
A decline in economic indicators and a precipitous drop in dairy prices have driven much of the Kiwis slide this year, however, a recovery in the latter has also been the catalyst for a stem in the move south since late summer. The recent recovery in the Kiwi has yet to prove sufficient to prompt further jawboning from the RBNZ The RBNZ are currently in a wait and see mode as they continue to asses the impacts of the income erosion that was driven by the demise of dairy prices. It is likely that the read through from these income shocks is yet to be fully realised in the real economy. This likely sees the RBNZ’s stance as one of keeping their powder dry to act if these income shocks prove more pervasive than they anticipate.
The Kiwi price pattern broadly mirrors that of the Aussie and is also pointing towards a December inflection point should it continue to track the current probable price path. As with the Aussie, it appears we could see a further grind higher into December and the key FOMC meeting. The current path sets up a potentially meaningful double top test of the recent recovery highs that will coincide with the primary descending trendline from the cycle highs back in the summer of 2014.
I will be tracking the Kiwis progress versus the early 2015 recovery price and time fractal paying close attention to the potential trend line retest into mid December as an opportunity to align with the broader trend for the next material leg lower.
For updates on trade of the day set ups and the other trades I am currently monitoring be sure to follow me on Twitter @LFXPatrick