By James Helliwell, Chief Investment Strategist
First featured in our August Trading Club: Receive Lex and James's full analysis of equities, currencies and commodity markets FIRST at the Trading Club.
People often assume that currencies are our favourite markets to trade. Whilst we spend a lot of time considering what is happening in currency land, this is in our view a necessity when trading other markets such as equities, commodities or bonds. Trading currencies can be rewarding, but even if you don’t trade them yourself, there is a massive advantage to be gained by understanding the drivers and risk factors associated with other asset classes. Our Trading Club shares this approach with you based on our experience as professional investors.
Here you see our checklist applied to the Canadian dollar. The checklist provides a systematic process that fellow hedge fund managers and traders employ to analyse markets, from which the biggest trading decisions are made. We have similar versions to analyse other major currencies, stock markets and commodities including crude oil and gold, and score each factor +1, -1 or 0 depending on whether they are regarded as positive, negative or neutral for the coming month. The total ranges from +5 to -5, with a positive score indicating a potential buy, and a negative score suggesting that you may look to sell (closing long positions or going short). A neutral score of 0 suggests avoiding trades when there is no clear bias.
Country analysis. There is only green on the country analysis scorecard this month, highlighting improvement in the Canadian economy. Whilst Lex and I assess each of the main items in greater detail in our monthly webinar, this receives a positive score on our checklist. (+1)
Economic surprise. The Citi Economic Surprise Index (CESI) for Canada suggests that economists have been slow to revise their estimates higher in line with the improvement we noted in the country scorecard. The last print (55.2) is positive and has improved 33.4 index points since last month (interestingly, this is the best absolute score level observed amongst the G10 peers we track). Simply put, the data have been surprising to the upside. (+1)
Real interest rate. The difference between the central bank rate and inflation is negative (-0.3). This is means that domestic Canadian savers and foreign investors who own Canadian dollars are growing poorer by holding cash. Whilst Canada's real rate is one of the least negative amongst G10 peers, in isolation this remains a negative for owning the so-called 'Loonie'. (-1)
Futures positioning. We view speculative positioning as contrarians. In this case the net position is pretty much neutral, but has lengthened quite significantly over the past month. This indicates surging optimism, although the position is not quite at a 52-week extreme. On balance we regard this as neutral, but you could argue the case for a positive score over a very short term horizon. (0)
Technical analysis. Turning to the charts, the Canadian dollar appears to have bottomed and is exhibiting positive momentum. However, the weekly RSI is now extreme (‘overbought’), which suggests that momentum may begin to slow even if price doesn't necessarily correct here. Taking a slight positive from this, we look to support and resistance. Again, it is a similar story - the chart looks pretty good, but price has already moved quite far. To be more specific, if 0.80 (CAD/USD) can be overcome, then the next resistance level appears to be some 3% higher near 0.8250. So with momentum positive, but extreme, and the technical areas looking reasonably supportive, we conclude that a half mark is perhaps most appropriate from a technical perspective. (+0.5)
Summing everything up, we arrive at a score of +1.5 heading in to August. This suggests maintaining a positive bias on the Canadian dollar during the coming month.
Whilst in absolute terms the current reading is some way off a maximum +5, it is best considered in context versus other major currencies including the US dollar, Euro, British pound, and Japanese yen which we also track in our monthly Trading Club webinar. In relative terms +1.5 in fact places it at the top of our currency league table, with only one other currency presenting a positive score (note: we have obscured some of the names out of respect for our paying members, but you will of course be able to view them upon joining).
As the yen is currently looking like the currency to avoid, one might consider buying CAD/JPY as an alternative to the US dollar cross. This is where a global perspective combined with our robust trading process can really open up opportunities through creative idea generation. As you can see, this has been a great trade over the past month (don’t let anyone tell you that the rally in the Loonie is simply ‘US dollar weakness’).
Hopefully this offered useful insight in to what is happening in currency land. Regardless of whether you see yourself as a currency trader, all markets are influenced by currency factors and investors in stocks, bonds and commodities have implicit currency exposure whenever they trade (of course, professionals tend to hedge this form of risk, but many global equity managers look for undervalued currencies as a starting point in their investment process for identifying undervalued stocks).
Join us at the Academy to ensure that you are on the right side of the market and apply this same process to stocks, gold, crude oil and other currencies with analysis from myself and Lex van Dam.
Have a great week trading,
Lex van Dam’s Trading Club provides access to our best trade ideas within FX, stocks and commodities each month and stay ahead of the action with our weekly market report. We hope you found this article interesting and insightful. For further discussion or to receive access to our monthly Trading Club meeting, join us at the Trading Club.
Disclaimer: Our service is intended for educational and informational purposes only and should not be considered investment advice. Do not make any decisions based on the articles and material presented on www.lexvandam.com and never trade with money you cannot afford to lose. We cannot be held responsible for your trading results.