Last week was marked by the Euro performing relatively weak—its index showed depreciation of 0.53%. The currency outperformed only the U.S. dollar (0.95%) and the Canadian dollar (0.86%), while under-performing against all other major currencies, most notably relative to the Japanese Yen (-2.83%). The Euro itself did not move the markets significantly as there was a lack of major news from the region throughout the week, the debasement of the currency was rather a result of events related to its main rivals.
The 17-country bloc currency started moving only on Tuesday, mainly due to the BoJ refraining from intervening in the bond market, increasing uncertainty about its commitment to monetary stimulus. However, the currency was little changed again on Wednesday despite better-than-expected industrial production data release. The Euro lost some value on Thursday amid the U.S. Surprising with better-than-expected economic reports; however, the currency rebounded somewhat later in the day due to hawkish comments from Weidmann. Generally, the weak performance of the currency during the week cannot be explained by a change in fundamentals of the region, but can be attributed to high volatility of sentiments in the market.
[I]The Dukascopy Bank research department continues its research on commodity currencies. In the first issue we have established that the relationship between CAD/AUD and commodities is rather strong, yet inverse. That is, the AUD strengthens against the CAD as commodity prices go up, and weakens when they go down. This allows us to expect the AUD exchange rates to be more closely linked with commodity price changes. Therefore we make the Australian dollar the subject of our current research.
[/I]
Considering the conclusions we made about the Canadian dollar, we have chosen to concentrate on three main questions:
How strong is the link between the Australian dollar and commodities?
How does the relationship change over time?
What is the relationship now?
[B]Methodology[/B]
As before, we use a rolling correlation to study the relationship and apply the method to asset returns.
[B]Findings[/B]
[I]First finding:[/I] the strength of the relationship with commodities differs among separate AUD currency pairs.
[I]Second finding:[/I] The relationship between the Australian dollar exchange rates and commodity sectors is not stable over time.
[I]Third finding:[/I] currently the link between the Australian dollar and commodity sectors is notably strong, with correlations at their historic highs.
[B]Conclusion[/B]
At the moment there are five currency pair – commodity combinations that have a stably strong relationship since 2011:
Performance of the U.S. Dollar over the past five days is a good example how significant such events as FOMC meeting may be given certain conditions. Speculation on the still largely unanswered question regarding the currently running asset purchase programme has been completely dominating movements of the U.S. Dollar and, considering the importance of the currency in the Forex market, led to a spill-over effect, defining exchange rates in many of its crosses. This becomes particularly evident when looking at the news that have been published lately.
We must admit that some of the recent events were negative for the U.S. Dollar. These would be the reports on consumer sentiment and industrial production. However, one of the key statistics with respect to Fed’s final decision, namely unemployment claims, overshoot expectations by a wide margin, but also some of the other, specifically retail sales, should have increased the valuation of the greenback. Nevertheless, the result was quite the opposite—the buck lost 0.45% for the period June 12-18, while the lowest point of its index—99, was recorded last Friday. In the long run the U.S. Dollar stays in the up-trend, having advanced 4.1%, despite the 1.9% loss within a month.
At first there were doubts whether the British Pound would be able to finish June 14-20 period on the positive side. The initial data to come out on the U.K. economy was not promising, forcing the investors to reduce their exposure to the Sterling that as a result lost 0.5% of its value within the day. In the end, however, GBP not only negated the losses, but also climbed 0.5% above the starting level, being that the latest report on retail sales has significantly increased Pound’s attractiveness, showing that an economic recovery is not as distant as it seemed in the past.
While this appears to be a logical outcome, also taking into account that the Monetary Policy Committee members refused to provide any kind of additional boost (supportive of GBP), currency’s behaviour on Tuesday was contrary to what one would expect given the news released on June 18. Instead of rising, the equally-weighted index went down more than 0.6% amid the report on higher rate of inflation than expected. From one side this may be explained by anticipation of the MPC meeting minutes, but then volatility should have been then lower. From the other side, simultaneously with CPI figure, other statistics were announced, and some of them fell short of expectations, making the second option more likely.
The U.S. Dollar has been by far the most bullish currency in the market within the last five trading days. Since June 19 it has appreciated on average 2.5% relative to the major rivals, whereas the second best-performing currency, British Pound, managed to gain only one per cent for the same period. Such a leap allowed the buck also to take the lead in the longer term (+6.1%), while previously price of the Euro grew the fastest (5%). On the other end Swedish Krona was the one to distinguish itself the most, plummeting 1.9% amid dovish talks in Norway.
Undoubtedly, an event with the highest degree of importance to the Dollar and the market overall was the long-awaited FOMC meeting. It threw the greenback 1.4% higher in just an hour. The Australian Dollar was 1.8% lower four hours after the announcement the Federal Reserve is planning to start wrapping up the programme this September and end it next year. Nonetheless, as it would be expected, the effect of the committee’s statement was not limited to one day. The inertia was felt on Thursday and Friday as well, when neither negative news (higher unemployment claims) nor absence of news on Friday were capable of stopping USD’s advancement, let alone reversing the upward trend.
Behaviour of the Japanese Yen lately was uncharacteristic of its explosive nature that we are used to and observe on a constant basis, mostly it is a consequence of the data on the U.S. economy. The currency has completely lost the momentum and was largely traded sideways, ending the five-day period with a –0.4% change, while at the same time the Australian Dollar appreciated by 1.5% and the Swedish Krona plunged 1.7%. Still, there were crosses where the Yen deviated significantly from its initial price, such as with AUD, USD and NZD, but were outweighed by changes in SEK/JPY and CHF/JPY.
Even though this particular period was not associated with substantial revaluation of the Japanese Yen, especially compared with its major counterparts, in the medium term perspective (20 days) the Yen is the most bullish currency, as it gained 4.5%. This may be justified by improvement in the Japanese fundamentals that continue to surprise on the upside and demonstrate overall positive tendency in the economy after the Bank of Japan announced unprecedentedly large asset purchases in order to revive growth. However, in the longer run (130 days) the Yen still distinguishes itself as the most bearish currency, losing 9%, which confirms its hectic essence that temporarily is not exhibited on the charts.
At the moment the single European currency index, if equally weighted against its major counterparts, is only 0.1% cheaper than it was five days ago. However, this stability of the Euro may be somewhat deceptive of the currency‘s outlook and its future performance. Since June 26 the Euro has managed to recover one per cent, buoyed by the fairly positive German data on Friday, but to a larger extent by the less bullish U.S. Dollar, rally of which was suspended by the Fed officials—they are closely watching unemployment statistics and the latest release could have been more positive.
Still, the buck outperformed the Euro the most, by 0.7%, being that the European Central Bank in its latest appeal to the public sounded as willing to remain accommodative with no tightening currently in sight. Accordingly, even if the Euro stayed more or less unchanged on a weekly basis, there is little hope for it to stay afloat in a longer perspective, especially against the greenback, since the United States are preparing for less stimulus. In the meantime, EUR/SEK is now priced 0.6% lower, as, according to state officials, there is no reason to expect weaker Krona, considering that the economy is strong enough to be able to withstand no-so-favourable exchange rates.
We are more than happy to announce that a new analytical Dukascopy product “Community Forecasts” has been launched! The product will be released once a week every Tuesday, so don’t forget to check it out!
What is it all about? In contrast to other analytical products this one offers traders the possibility to become an important part of it by giving their forecast on a certain currency pair. Each week three most traded currency pairs will be chosen and traders will be surveyed about their opinion on the pair’s outlook for the next week. The most precise forecast makers will be rewarded with extra reputation points on their community member account.
We believe that our traders’ knowledge and opinion are no less important than the ones of market specialists and economists, therefore we encourage each and every one of you to share your opinion with us!
The U.S. Dollar has been moving in fits and starts over the past five days, making the most progress during the American trading hours and remaining immovable the rest of the day. Still, the currency has kept the direction north, resulting in outperformance of most its rivals, on average by 1.1%. Against the New Zealand Dollar the buck, however, is largely unchanged for the period Jun 26—Jul 2, but in the longer term (six-month perspective) is considerably more bullish that the kiwi and any other currency, having gained 7.1% already. The Euro is a runner up with 5.1%.
The largest contribution to appreciation of the equally-weighted Dollar index was made by USD/JPY currency pair that has gone up by 2.6% since Jun 26 and is still able to extend the gains, given that the divergence in monetary policies undertaken by the Federal Reserve and the Bank of Japan is becoming more and more pronounced. While the former is talking about scaling down the monthly purchases, the latter is committed to apply extra effort, should the targets turn out to be unachievable with currently active measures to reingnite elusive economic growth. Similar discrepancies are observed between the Fed and the ECB, although to a much lesser degree, hence only a 0.9% dip in EUR/USD.
In Forex, leverage is a loan that allows an investor to trade a significantly larger amount of currency than they deposit. The use of leverage is appealing, because it can help traders to increase their capital faster than while trading without it. The downside, however, is that possible losses grow together with possible gains. Therefore it is both interesting and useful to find an optimal level of leverage that would provide a compromise between increasing gains and minimising losses.
In this research we use maximisation of the end of period wealth (or, equivalently, capital rate of growth) as a criterion for optimising the level of leverage. We employ the method for the four most traded currency pairs: EUR/USD, GBP/USD, AUD/USD, and NZD/USD, and cover various time intervals for the first quarter of 2013. The data consist of one hour, ten minute, and five minute close prices.
We also test the obtained values by simulating the trading process and try to find the best way to use optimal leverage in practice.
Methodology
To maximise the value of wealth at the end of a trading period one can try to maximise the “speed” of trading, or the amount gained per unit of time. One of the possible estimations of such speed is the leveraged geometric mean of returns.
Results
For all observed datasets, returns are not normally distributed.
Conclusion
In this research we have investigated two methods – analytical and numerical, - for calculating the optimal level of leverage by maximising the leveraged geometric mean of currency pair returns. It appeared that, even though theoretically the analytical method was not appropriate for our dataset, both methods gave practically equal results. This can be viewed as*a positive outcome, because the analytical method is much simpler and easier to employ.
Unfortunately, none of the methods proved to give superior results in trading simulation. It appears that the optimal level of leverage can change so significantly in time that using a past value does not guarantee any profit in present or future. It might, however, be also related to the strategy used in the simulations. It is possible that the use of a more sophisticated decision making algorithm could result in better outcomes and give more insight on the issue of the optimal levels of leverage.
Globally, it appeared that the proposed methods for calculating the optimal level of leverage can indeed shift the geometric mean of historical leveraged returns above zero. However, the application of this historical optimal level to real-time trading remains unclear.
Due to an abundance of news from various regions it was fairly hard to follow the changes in the Swiss Franc, as it is rather a follower than a driver in the foreign exchange market. At the very beginning the currency was noticeably reacting to the data coming from the Eurozone that continues to evidence of an improving economy. Consequently, both the Swissie and the Euro, being closely bound, posted strong gains (+0.6-0.7%). However, subsequent performance of the Franc was not tied to the outlook for the 17-nation bloc, rising unemployment in which dampened the overall positive image.
The next events to impact behaviour of the Franc were largely taking place in Australia. Despite the geographical remoteness, they exerted considerable influence on the value of the Swiss currency, more than one would expect. The elevated significance of the Australian Dollar on the Forex arena was provided by the RBA statement and even to a larger extent by the comments of the central bank’s governor Stevens, who was able to slice 1.4% off the Aussie’s worth by sounding dovish, i.e. willing to go on with the accommodative policy. Still, the most impressive move of the Franc was observed on Friday, when the BOE indicated desire to support economic growth by keeping rates low, which in turn has negatively affected the currency, stripping 2% of its value in several hours.
The bloc‘s data published in the first part of the week was mixed, hence the absence of any particular direction in the Euro until Jul 4. The retail sales surprised on the upside, as did the report on manufacturing PMI. At the same time unemployment rate across the 17 nations reached a new high—12.1%. The percentage of people out of work was expected to be even higher, but the increase is still a negative indication of the Eurozone‘s health. Moreover, services sector showed weaker numbers than before as well.
Euro‘s hesitation could be also viewed as market participants‘ unwillingness to take on more risk before the major events that were scheduled on Thursday and Friday, namely ECB and BOE statements on their monetary policies on July 4 and U.S. labour market next day. In the end this reaffirmed the existing divergence between the accommodative stance of European central banks and hawkish rhetoric of the Federal Reserve. This resulted in a 1.45% drop of EUR/USD over the week. The single currency also underperformed against the Antipodeans and the Canadian Dollar, but in the meantime managed to gain relative to its European counterparts and the Japanese Yen.
The six-month and three-year global economic expectations deteriorated in June, a Dukascopy Bank SA survey showed. The six-month economic sentiment index declined 0.03 to 0.57. The three-year economic outlook worsened to 0.69.
The European six-month economic sentiment index declined 0.03 to 0.38, the lowest reading in two months. The three-year economic outlook slid to 0.58, down from 0.61 in May when it gained 0.03.
Respondents became more optimistic about the six-month and three-year North American economic prospects. The six-month and three-year indices climbed to 0.70 and 0.77, up from 0.66 and 0.73 in May respectively.
The Asia-Pacific six-month and three-year economic outlook sentiment indices worsened the most. The six-month outlook tumbled 0.10 to 0.63 and the three-year economic outlook declined 0.05 to 0.73.
While bearishness of the Australian Dollar provided strong support for many currencies last Wednesday, due to RBA’s commitment to carry on with loose policy, for the buck this day was marred by the worse-than-expected data on tertiary sector and unemployment claims, pushing the currency 0.54% below its initial pricing in the market. However, subsequent news, namely the Bank of England and European Central Bank statements, despite the holiday in the United States, positively affected the U.S. Dollar, which gained 0.46% on Jul 4.
Still, currency’s bullishness was mainly displayed next day. Previously initiated improvement in the sentiment towards the Dollar was exacerbated by the report on non-farm employment change that came in significantly better than expected, negating the release of the unemployment rate that in isolation would probably lead to a completely different result, as it fell short of expectations.
This week demand for the greenback is not as strong—promising news on the Greek deal and softness in the Euro failed to buoy Dollar’s price. Also there were no influential statistics published on the U.S. economy that would increase the likelihood of a soon tapering.
The Dukascopy Bank research department presents the final part of its research on commodity currencies. In the current issue we consider commodity sectors’ influence on Norwegian krone exchange rates. Norway is the second largest non-OPEC oil exporter, and energy products make up more than 50% of its exports. It gives us an opportunity to establish whether the exports’ share can be named as one of the relationship-defining factors.
Methodology
To compare results of the current research with those previously, we use the same indices to represent commodity sectors. Namely, S&P GSEN (Energy), S&P GSIN (Industrial Metals), S&P GSAG (Agriculture), and S&P GSPM (Precious Metals). The time frame also is the same – from 2000 to 2011. The currency pairs chosen for analysis are NOK/USD, NOK/EUR, NOK/JPY, NOK/CAD, NOK/CHF, and NOK/AUD. More detailed information can be found in the appendix.
Findings
First finding: commodities’ relationship with NOK is weaker than with the Australian dollar, but stronger than with the Canadian.
Changes in price on Industrial Metals are significant for NOK/USD and NOK/JPY. The energy sector might be considered in trading NOK/USD, NOK/JPY, and NOK/CHF. However, the relationship is changeable, and traders should follow global market tendencies to estimate the link.
The aim of this research was to establish whether there is a link between commodities and so-called commodity currencies. We have examined three currencies and concluded that each of them is to some degree related to certain commodity sectors. The strength of the link changes in time, and currently all currencies are in a period of close relationship with commodities. The most impacted currency is the Australian dollar. The Norwegian krone is second-best. The weakest but still mostly significant relationship is between commodities and the Canadian dollar.
When looking through the events that have occurred recently, it becomes evident that the changes in the valuation of the British Pound were weakly linked to the actual fundamentals of the United Kingdom. The only pertinent to the economic situation in the country report was released this Wednesday, reminding us that we should not get ahead of ourselves by a 0.8% dip in Sterling’s index, even though in bulk the statistics lately have been promising. Investors in this case proved to be cautious, keeping the Pound’s price more or less at the same level in the short term (+0.16%) and in the longer perspective as well (-0.75%).
Next two days, following a negative release, the Pound was successfully reconquering its previous positions on the back of several factors. One of them was poor performance of commodity currencies, namely AUD, NZD and CAD, all of which fell more than 1% this Wednesday amid disappointing Chinese data. At the same time IMF raised its U.K. GDP growth forecast, confirming that the economy is still moving in the right direction, even though the road, as we have witnessed, is quite bumpy. Finally, widespread sell-off of the U.S. Dollar, being that the Fed remains prudent with respect to the recovery and is therefore not in a hurry to remove stimulus, also supported the Sterling.
The very start of the week was explicitly sluggish, with only two currencies (NZD and SEK) showing any liveliness at all. Subsequently, however, stagnation left without a trace, giving way for major changes in the context of the market. Shortly before that the single European currency was rapidly ceding ground amid a signal by the ECB the accommodative policy could last for a while. By the end of Tuesday the Euro was already 0.8% below its starting point, lagging behind the commodity currencies the most.
Nonetheless, against the background of supposedly more asset purchases in the future, as may be derived from the speech of the FOMC Chairman Ben Bernanke, the common currency was able to offset the prior losses. The bullish momentum was reinforced by the U.S. unemployment claims published next day as well, being that the report highlighted labour market‘s vulnerability. Attractiveness of the Euro was not even impaired by the disappointing data on the bloc‘s industrial production, the volume of which contracted. In the end, the Euro appreciated by 0.5%, adding to its modest monthly gains that now amount to 1.1%, a great deal behind greenback‘s 3.4%.
Yet another quarter has passed, meaning we are ready to share with you our regular report. The major events of the past quarter mainly revolved around the world’s biggest central banks. We have witnessed measures of unprecedented scale introduced by the newly appointed Bank of Japan Governor Haruhiko Kuroda, shy-in-comparison extra accommodation provided by the European Central Bank, in the form of a 25bp rate cut, and finally, rising U.S. government bond yields as a result of unending speculation with respect to the QE3 tapering schedule. The latter topic is capable of becoming even more influential in the next quarter, considering the decreasing topicality of expansionary monetary policies in Europe and Japan because of Draghi’s and Kuroda’s commitment to stay loose for an extended period of time. In the meantime, concerns over the world’s second largest economy are also expected to play one of the major roles in the coming months. On the whole this makes the third quarter of 2013 no less easy than the previous one. This is why we hope our report will serve its purpose and help you pass through the next three months safely.
The U.S. Dollar’s performance lately has been strongly bearish—the currency has underperformed against all of its major counterparts since last Wednesday. The five-day loss of its equally-weighted index totalled to 2%, with the most impressive changes in USD/EUR (-2.8%), USD/CHF (-3.4%) and USD/SEK (-3%). As mentioned in the previous issues of Market Research, the sell-off was associated with surprisingly dovish rhetoric of Ben Bernanke in his speech after the minutes of the latest FOMC meeting held were published. His comments are responsible for a 2.3% dip in the average price of the greenback on Jul 10.
Subsequent news were largely incapable of moving the U.S. Dollar, having very limited influence on its pricing. Reports on the U.S. wholesale prices, industrial production and inflation positively affected the value of the Dollar, but the influence was offset by the worse-then-expected data on the U.S. unemployment claims, consumer sentiment and retail sales, keeping the currency’s trading levels low.
Yesterday, after a week of fairly low activity, the buck returned to its bearish tendency, retreating additional 0.8%, being that today’s testimony of the Fed chairman is again expected to be soft with respect to the monetary policy currently pursued by the central bank of the world’s largest country.
The Dukascopy Bank research department presents the first part of the research on assets performance within a business cycle. The research gives investors an opportunity to estimate the behaviour of several asset classes under changing economic conditions.
The main question of the research is: how do assets perform across a business cycle?
This study is dedicated to the equity asset class in the U.S., and in particular its sensitivity to different economic regimes.
Methodology The U.S. equity asset class is represented by four American stock market indices: S&P500 – large cap stocks, RUSSELL 2000 – small cap stocks, MSCI USA Standard (large cap + mid cap) Value and Growth indices – value and growth stocks, respectively.
We concentrate on stock index returns and volatility as measures of stock performance.
We also pay attention to changes in correlations between diverse stock types within the business cycle.
Results 1. Economic periods marked in accordance with the composite index correspond to the economic cycles estimated by the National Bureau of Economic Research.
Conclusion
Summarising the results above, economic regimes have an influence on stock performance. During expansion, a period of fast economic development, stocks tend to have moderate returns, low volatility and weak correlations. This makes the regime a good time to invest in stocks. As far as recession is concerned, high returns, elevated volatility, and strong correlations are expected. Therefore this period potentially is more profitable for short-term speculation, but risk management becomes the top priority.
