Commodity currencies gain on the long run as commodities become more expensive and higher US interest rates force higher rates at home - Source: Shutterstock
Highlights
Worst-performing commodity-heavy currencies to gain most on higher US interest rates
Also ReadStocks dip on Fed expectation to up US interest rates
ALBAWABA – A weaker United States (US) dollar, on anticipations of soon-ending US interest rates hikes, has presented an opportunity for investors to buy other commodity-heavy currencies on the cheap, Reuters reported Wednesday.
Expectations that the Federal Reserve (Fed) will finally putt a pin on further US interest rates hikes, as inflation and labor market data indicate a positive slowdown, have placed the currencies of countries like Norway and Australia on the crosshairs.
Many commodity currencies suffered this year when prices for oil and other raw materials fell from their 2022 peaks, according to Reuters.
Expectations that the central banks' fight against inflation would hurt global growth and cripple demand for commodity exports weighed heavy on commodity markets.
Nonetheless, growth in the US proved to be resilient to higher US interest rates, as is the case in some other countries. This led strategists to set aside concerns about a global economic downturn, the news agency explained.
But even though these positive outlooks drove rallies in risk assets, such as stocks, they did not similarly reflect on commodity markets and raw material prices.
As commodity-heavy have suffered the most so far, hikes in US interest rates actually promise a profit for investors who invest now in these currencies, looking forward.
Prices for oil, copper and other raw materials rose on the news, while commodity currencies such as the Australian and New Zealand dollars actually edged up, as reported by Reuters. Brent crude is down 3% year-to-date.
In the coming weeks, as the Fed raises US interest rates, commodities will become more expensive, and these countries whose currencies are now being targeted will likely also up interest rates.
Both of these events promise higher returns for investors who buy commodity currencies now.
Bullish outlooks on higher US interest rates
The bullish expectations on commodity currencies gained traction in recent days after leaders in China on Monday pledged to step up policy support for the economy.
While some commodity currencies have gained well against the dollar this year, many bullish investors are looking for winners among the lagging currencies. Those that are going to make the leap slowly but surely.
Such commodity currencies include the Norwegian crown, the second to worst-performing G10 currency against the US dollar this year. The crown is down nearly 3 percent against the greenback. Analysts are also pointing to lower energy prices and a central bank that until recently had raised rates at a slower-than-expected pace, Reuters reported.
Some other commodity currencies have seen similar declines, with the New Zealand dollar down 2 percent and the South African rand down 3 percent.
Deutsche Bank recently conducted an analysis of currency valuations based on factors including terms of trade and gross domestic product. The analysis showed the Norwegian currency undervalued against the US dollar by more than 30 percent, while the Australian dollar is about 20 percent below fair value, as reported by Reuters.
Senior portfolio manager at Neuberger Berman Thanos Bardas told the Canada-based news agency he believes the Australian dollar could appreciate if global growth improves and commodity prices rise.
Apparently the International Monetary Fund on Tuesday slightly raised 2023 growth estimates.
The Japanese Yen is also below fair value, according to Deutsche Bank’s model, off 7 percent against the US dollar. It is likely to be one of the world’s most undervalued currencies.
Higher US interest rates over-appreciated the greenback
After a series of rate hikes by the Fed, the US dollar has become one of the most over-valuated currencies in the world.
"Most [valuation models] are screaming over-valuation for the US dollar," Bipan Rai, North America head of FX strategy at CIBC, told Reuters.
The greenback is grossly overvalued against the Japanese yen, euro and British pound.
Still, strategists have cautioned against putting too much stock in valuations, especially for short-term moves, because currencies can often stray from their fair values for months.
For such investments to reap fruit, moves should be extended on the long term.
More so, betting against the US dollar carries its own risks.
The dollar can easily rebound into growth if US inflation proves stubborn, or the Fed is more hawkish than investors had priced in.
Higher US interest rates can certainly undermine any bets against the greenback.
This, however, does not change the assessment that there is plenty of room for the dollar's peers to appreciate further, according to Reuters.
Also ReadFed hikes interest rates to pre-2008 levels
Jane Foley, head of FX strategy at Rabobank, is upbeat on the currencies of Sweden and Norway. Given how undervalued they are, any sign of economic strength in the respective countries could lift the currencies, she said.
