EUROPEAN CURRENCIES CHALLENGE 2010 HIGHS ON RATE HIKES -- COMMODITY CURRENCIES REMAIN STRONG -- EVEN EMERGING MARKET CURRENCIES ARE RISING -- BUT GOLD IS RISING EVEN FASTER -- GOLD'S DUAL ROLE AS AN ALTERNATE CURRENCY ADD TO ITS APPEAL
EUROPEAN CURRENCIES RISE ON HIGHER RATES... As expected, the European central bank raised interest rates by a quarter point today for the first time in two years. Expectations for that hike (and maybe more to come) have helped boost the Euro against the U.S. Dollar over the past few weeks. Chart 1 shows the Euro very close to achieving an upside breakout through its November high. That increases pressure on the British central bank to follow suit. That helps explain the recent rebound in the British Pound. Chart 2 shows the XBP nearing another test of its late 2010 highs. The trend of both currencies is upward. Rising foreign currencies are usually bullish for commodities (especially gold) since they coincide with a falling U.S. Dollar. It would be a mistake, however, to assume that only a handful of currencies are rising against the dollar. With the exception of the Japanese yen (which is reacting to the recent disaster there and central bank intervention), virtually every other currency is rising against the dollar. Commodity currencies have done especially well.
(click to view a live version of this chart)
Chart 1
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Chart 2
COMMODITY CURRENCIES SOAR... I've explained in previous messages that currencies of countries that export commodities have been doing especially well. Three of them are shown below. Two that I've written about before are the Australian Dollar (blue line) and Canadian Dollar (red line). Both are trading at multi-year highs. The black line is the Brazilian Real which is actually the strongest of the three. While all foreign currencies benefit from a falling dollar (which boosts commodity prices), currencies actually tied to commodities get a double boost. They benefit from the falling dollar and rising commodities. The Brazilian Real is actually an emerging currency (although a very big one). So is India whose currency is also rising. And so is a basket of emerging currencies.
Chart 3
EVEN EMERGING CURRENCIES ARE RISING ... The blue line in Chart 4 shows the Indian Rupee trending higher. India, which is one of the biggest emerging markets, has been raising rates to combat inflation. The black line is the Wisdom Tree Dreyfus Emerging Currency ETF (CEW) which is a basket of twelve emerging currencies from Latin America (Mexico, Brazil, Chile); Europe, Middle East, and Africa (South Africa, Poland, Israel, Turkey); Asia (China, South Korea, Taiwan, India, and Malaysia). And, as you can see, that basket of emerging currencies is rising as well. A lot of the strength behind those rising currencies is coming from higher rates to stem inflationary pressures resulting from rising commodity prices (especially food and fuel). There's a strong argument to be made that the U.S. zero interest rate policy, which has kept the U.S. Dollar on the defensive, is one of the main factors causing global inflation pressures and pushing foreign currencies and commodities higher. And there's no sign of that ending. Two ways investors can protect themselves from a devaluing dollar are to buy foreign currencies or commodities. Especially gold.
Chart 4
GOLD IS ALSO THE STRONGEST CURRENCY... Gold has two main advantages in the currenct environment. One is gold's role as the commodity most sensitive to a falling dollar and the one that investors are most familiar with. Investors can buy the commodity through an ETF (like GLD), individual mining shares, or a basket of miners with an ETF (like GDX). Gold, however, is also viewed as an alternate currency. Investors who want a hedge against a falling dollar can also buy a foreign currency. Problem is most investors aren't as familiar with currency trading. More importantly, gold is doing much better than even the strongest foreign currencies. Chart 5 compares gold (black line) to three of the world's strongest currencies including the Brazilian Real (blue line), Aussie Dollar (green line), and the Canadian Dollar (red line). Those stronger currencies also happen to be tied to commodities. The main point of Chart 5 is to show that gold is outperforming the strongest currencies by a wide margin. [Commodities as a group have also outperformed those foreign currencies]. That's another reason why investors continue to buy commodities and precious metals in particular.
Chart 5
THE DOLLAR STILL LOOKS BEARISH... A longer view of the US Dollar shows its inverse impact on gold and the Canadian Dollar. Chart 6 shows that the major bull market in gold and the Canadian Dollar (red line) started during 2002 just as the U.S. Dollar (green bars) peaked (see arrow). The 2008 Dollar rebound caused corrections in the other two lines. The early 2009 peak in the US Dollar, however, contributed to upturns in the other two markets; and the falling dollar has been behind their surge this year. The direction of the dollar itself is very important in determining the direction of those other markets. The two converging trendlines at the bottom right of the chart show the USD in an apparent "symmetrical triangle" which is a potentially bearish pattern. That's because that formation is usually a "continuation" pattern. Since the dollar's trend was down prior to the pattern forming (from 2002 to 2008), technical odds favor an eventual breakdown in the greenback. If that should occur, commodities and foreign currencies will be very good places to be.
