Central banks have turned dovish because of concerns over the health of global economy, writes Fawad...
Does OPEC really Affect Forex? (Part 2)
09/19/2008 12:00 am EST
Part of understanding the impact that oil prices have had on the commodity currencies is understanding that during the last few years there has been an amplifier affect at play. That amplifier factor is the value of the USD. Oil is largely priced in USD, which means that if the value of the USD is falling, the price of oil will inflate and go up. Conversely, if the value of the USD is rising relative to other major currencies, the price of oil will fall as the USD's purchasing power increases.
When the value of the USD is added to the impact that economic growth has on the price of oil, we can start to understand why this market can move so quickly. Economic growth is another important factor that increases commodity and oil prices as it accelerates and demand increases. Similarly, slowing growth will decrease demand for oil and other commodities and will push prices down.
Growth and the value of the USD relative to other currencies are not necessarily correlated. Sometimes the value of the USD is rising at the same time the global economy is growing, and the reverse can also be true. However, you can imagine what happens to the prices of commodities when the value of the USD is falling at the same time that global growth is driving demand for oil or other commodities. That has been the situation over the last few years, and the double impact of a weak USD and high growth has pushed the value of oil, and therefore, the commodity currencies very quickly.
Recently, we have seen the exact opposite in the market. The value of the USD has been rising at the same time that global growth has been falling. That is a double impact on oil prices to the downside and we would expect to see commodity prices falling very fast. As commodities fall precipitously, the value of commodity currencies will fall quickly as well.
We can take advantage of this in a few ways. First, when both factors are in line with each other and trending towards lower commodity prices, forex traders can make a lot of profit by shorting the commodity currencies. Similarly, if both factors are trending towards higher commodity prices, forex traders can do well by going long the commodity currencies. Finally, it is important to note those times that these two trends are in conflict. If growth is rising but the value of the USD is also rising, the trend in the commodity currencies will be more choppy and difficult to trade from a short-term perspective.
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