Forex traders are puzzled. Despite a slump in the price of oil and other minerals as global growth slows, currencies of countries that are big commodity exporters have failed to follow. In fact, they have been holding up rather well.
The “commodity currencies” – those belonging to industrialised nations with large net exports of commodities such as Australia, Canada, New Zealand and Norway – have fallen just 3 per cent-4 per cent against the US dollar in the past three months. By contrast, Brent crude has fallen 26 per cent, thermal coal has dropped 18 per cent, and copper is down 12 per cent.
That has created what analysts at Deutsche Bank call an “extreme dislocation” between commodity currencies and the prices of raw materials.
The move has caught out some hedge funds, who were selling currencies such as the Australian dollar as a bet on falling commodity prices and weaker growth.
It is also creating a problem for commodity producers in countries such as Australia and Canada by keeping their local-currency denominated costs high even as their dollar-denominated revenues tumble in line with prices.
There is a simple explanation for the mismatch. Investors typically hunt for yield, and the commodity currencies are among the highest yielders of the industrialised nations.
Real interest rates are still above zero in Australia, which has the highest nominal rates of any industrialised nation at 3.5 per cent. That helps to explain why, despite recent rate cuts by the Reserve Bank of Australia, the currency has remained supported.
Derek Sammann, head of currency and interest rate products at CME Group, says that trading volumes in the Australian dollar have “gone through the roof”.
“The yield differential is a significant driver of that,” he says. But there is also a shift taking place that has inflated the value of some of the most important commodity currencies.
Commodity currencies belong to among the few triple-A rated assets left for investors and central bank reserve managers desperate to diversify away from the eurozone.
The New Zealand dollar got a boost in recent weeks after Moody’s reaffirmed its AAA status at the end of May. Australia, Canada and Norway are also among the dwindling number of industrialised nations that still hold cherished triple-A ratings.
That is an important factor for central bank reserve managers and other conservative investors such as pension funds, many of whom have a mandate to invest only in the most secure assets.
“Central banks are buying the last remaining AAA-rated sovereign bonds following the downgrades in the eurozone at the start of the year,” says Mansoor Mohi-uddin at UBS.
While central banks hold most of their reserves in dollars and euros, nearly all are seeking to diversify their assets. Central banks including Russia and the Czech Republic have recently announced they are adding the “Aussie” to their reserves. Traders say the New Zealand dollar and Scandinavian currencies have caught the attention of reserve managers.
The shift is helping to support smaller currencies such as the Australian dollar even as the commodity cycle turns and growth slows, creating problems for producers, from Australian coal miners to Canadian oil companies.
Stronger local currencies hurt producers by inflating their costs; in general, however, that effect is offset by a rise in commodity prices.
“The way producers look at currency is as a natural hedge,” says George Cheveley, natural resources portfolio manager at Investec Asset Management. “Some people are confused because it’s not working how they expected.”
The effect is to make projects in countries such as Australia and Canada less competitive, says Colin Hamilton, senior commodities analyst at Macquarie.
“Given where the commodities cycle has been you would have expected the Aussie dollar to be $0.90,” says Hamilton. “That affects capex investments in the medium term.”
Not all commodity currencies are created equal. The Australian dollar has held up in part because of the nation’s large exports of iron ore, which has barely fallen in price. New Zealand’s currency has held up this year because it is a net importer of oil, which has fallen sharply, and a net exporter of soft commodities, where falls have been muted.
But if natural resources prices continue to slide, the economies of Australia, Canada and New Zealand would eventually look less secure, some analysts say.
Schroders is avoiding commodity currencies in its foreign exchange portfolios based on the assumption they will, over the medium term, follow commodity prices lower. Analysts at Deutsche Bank also believe that commodity currencies will soon follow falling exports in their countries, and are advising investors to steer clear for now.
“I think there is scope for catch up,” says George Saravelos, foreign exchange analyst at Deutsche Bank. -By Alice Ross and Jack Farchy