EUR Rises From The Ashes: CAD And AUD Suffer

In recent months some of the previous carry darlings such as the commodity currencies led by AUD, are falling out of favour as the euro continues its rise from the ashes. Among the majors, we see the greatest potential for CAD and NZD to perform against USD in coming months. We still recommend selling USD/CAD, and buy carry currencies selectively in emerging markets against USD as proposed in FX Top Trades 2013.

Movements within the commodity currencies sphere have been more diverse than we expected. AUD and CAD have continued to move lower, while NZD has staged a noteworthy comeback. Over the same period, we have seen equities and the EUR move higher on an improved global cyclical outlook and a rise in euro area money market rates, respectively. The former would usually support the commodity currencies, everything else being equal. However, the EUR has benefited even more in recent months than our relatively bullish call would have suggested, seemingly distracting investor attention from the former commodity darlings. But the Scandies (except the DKK) have stayed in demand.

The reversal in sentiment towards the EUR, which was initiated with the ECB’s OMT programme last September has been extended by the drain in excess liquidity in the eurozone, as banks got the opportunity to repay money from the ECB’s first 3Y LTRO at the end of January. The euro moving back into investors’ favour is now weighing more heavily on some of the previously favoured triple-As such as CHF, AUD and CAD.

In light of our economists’ call for cyclical conditions to improve through H1, our FX strategists’ expectations for risk-on currencies to perform in the near term, and our commodity strategists’ projections for decent commodities performance in coming months, it would seem natural also to call CAD, AUD and NZD higher all together. However, the change in attitude towards the euro, coupled with recent shifts in central-bank communication, suggests any H1 rally in the three against USD may prove short lived.

At present, some commodity currencies, not least AUD, are falling out of favour as carry darlings. Some trends remain intact for now, however: The USD should remain a preferred funding target, while the Scandies and selected emerging markets currencies such as MXN are set to benefit from relatively hawkish central banks and a decent economic backdrop. Among the majors, we see the greatest potential for CAD and NZD to perform against USD in coming months as evident in our February FX Forecast Update. In terms of carry currencies we continue to advise on staying away from AUD and rather buy selectively in the emerging markets sphere with MXN as one of our favourites.

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