Major Currencies

Having risen nearly 30% against the US Dollar since March, the New Zealand Dollar (NZD or Kiwi) is now close to a 9 1/2 month high. While still far from the record highs of 2008, the currency is already erased a large portion of the losses it racked up since the credit crisis gave way to economic recession.

Back on March 12, the Swiss National Bank issued a stern promise that it would actively seek to hold down the value of the Swiss Franc (CHF) as a means of forestalling deflation. The currency immediately plummeted 5%, as traders made a quick determination that the SNB threats were made in earnest. Over the months that followed, however, investors became complacent and the Franc slowly crept back up.

When the Swiss National Bank (SNB) announced oln March 12 that it would intervene in forex markets for the first time since 1994, the Franc immediately plummeted up to 5% against select currencies. Since then, the currency has largely clawed back some of its losses, prompting talk of round two: “Speculation about an imminent intervention in the foreign-exchange markets was rife…after the euro fell to CHF1.5031, the lowest level seen since March 12 when the SNB began selling Swiss francs against euros.”

Based on the title, you’re probably groaning: ‘Wait, I thought this was supposed to be a forex blog?” Bear with me, however, as this subject is extremely pertinent to forex.

Last week, it was revealed that China has been clandestinely adding to its gold reserves since 2003, to the extent that its holdings increased by 76%, to approximately 1,050 tons. The news initially sent a ripple through forex and commodities markets, which were overwhelmed by the figures involved. After analysts had a chance to gather some perspective, however, the markets relaxed. You see, although the increase seems tremendous in size, it is quite small in relative terms.

The period leading up to the G20 meeting was generally marked by optimism and hopefulness. One commentator urged his readers: “Don’t write off the London G20 meeting. It could lay the foundations for fundamental global change, impacting currencies, gold and bond markets.”

Last week, the Forex Blog concluded a post on the Swiss Franc by suggesting that the Swiss National Bank (SNB) could artificially depress the value of its currency, which had “not just posted strong gains against the euro since late August but has gained 8% on a trade weighted basis.”

2007 was the year of the carry trade. 2008 was the year of the safe haven trade. 2009, meanwhile, is shaping up to be the year of the deflation trade. In other words, traders have completed an about-face in their collective approach to forex, such that those currencies with the lowest rates are now favored, because they are perceived to best hedge against deflation.

Most of the “safe haven” talk in forex circles has focused on Japan and the US. Switzerland, meanwhile, has also attracted is fair share of risk-averse investors, who are piling into Franc-denominated assets, despite the deteriorating Swiss economic situation. In fact, February witnessed an inflow of $4 Billion, most of which was targeted towards gold and money-market funds. The Swiss Franc, as a result, has appreciated by 9% (on a trade-weighted basis), since the summer.

Convention forex wisdom, as well as the "immutable" laws of economics, have long held that higher interest rates correspond with currency appreciation. This has been especially true in recent years, as risk-hungry investors used low-yielding currencies to fund carry trades, the proceeds of which were invested in higher-yielding alternatives. In the context of the credit crisis, however, this logic has been turned on its head, as the countries with the lowest interest rates have seen their currencies outperform. Emerging market economies that have turned bearish on inflation have likewise been rewarded with strong currencies, despite a potential imbalance in the risk/reward profile.

Convention forex wisdom, as well as the "immutable" laws of economics, have long held that higher interest rates correspond with currency appreciation. This has been especially true in recent years, as risk-hungry investors used low-yielding currencies to fund carry trades, the proceeds of which were invested in higher-yielding alternatives. In the context of the credit crisis, however, this logic has been turned on its head, as the countries with the lowest interest rates have seen their currencies outperform. Emerging market economies that have turned bearish on inflation have likewise been rewarded with strong currencies, despite a potential imbalance in the risk/reward profile.