The ‘commodity currencies’ in the context of the US-China trade truce

Marius Paun | London, UK | Senior dealer | Wednesday, 15th January 2020

This is the week when the US and China are set to sign the first part of the agreement to put a stop to their 18 months trade war. The so-called ‘phase one’ deal will be formalised today at a White House ceremony. Many analysts have the impression that this can only be a temporary compromise between Beijing and Washington at a time when both countries are concerned the global economic outlook is rather fragile. So let us take a look at two, so-called, commodity currencies; the Australian dollar and the Canadian dollar. Could they be the proxy that represents the Asia vs North America competition, when it comes to the pace of economic growth?

One could find many similarities between the two nations: geographically both have a sizeable area with the population thinly dispersed, they enjoy a strong rule of law (common law), relatively stable political system (considered solid democracies) and both have a free exchange rate mechanism. Additionally, both countries are geared towards natural resources so their respective currencies tend to rise when commodity markets rally and decline when demand for raw materials wanes.

Canada, as the larger economy of the two, is the tenth-largest economy in the world with a gross domestic product of $1.73 trillion. It has a population of close to 38 million and the Canadian dollar is the fifth most widely held reserve currency. Its total exports were over $450 billion in 2018. The top four export goods, amounting to around half of Canadian global shipments, were oil and minerals (22%), cars (14%), machinery including computers (8%) and precious metals (4%). Unsurprisingly three-quarters of Canadian exports went to the United States. However, by comparison, only 12% went to Asia and specifically, just 4.7% of Canadian exports went to China.

On the other hand, Australia is the world’s 13th largest economy, valued at around $ 1.37 trillion and has a population of over 25 million. The Australian dollar is the sixth most widely held currency accounting for just shy of 2% of global foreign exchange reserves. Australia’s total exports were roughly $254 billion. Like Canada, the top spot is oil and minerals (35%) followed by ores and slag (24%), precious metals (6%) and meat (4%). Around half of Australian exports went to Asia: China (30%) Japan (10%) South Korea (5.4%) and India (4%). Only 3.6% went to the United States.

So, in a nutshell, China is crucially important to Australia as their main buyer and conversely, the US is the top destination for Canadian exports. Both have a symbiotic relationship with their top trading partners.

What therefore does the AUD/CAD foreign exchange pair (potentially) signal about the US-China trade dispute going forward? AUD/CAD is trading around 0.90 marks now and for the past 3 years has been in a fairly tight range, 15% around the current price. Peak Aussie dollar strength was in April 2017 when the AUDCAD reached 1.0344. Top strength for the Canadian dollar was in September last year at around 0.8834.

Looking at the chart, the Aussie dollar is clearly in a downtrend over the long term. Nonetheless, for the medium term, it seems to have gone sideways, certainly since late July 2019.

The 9 week and 21 week moving averages appeared to cross over recently but that was a false signal. They are both pointing downward again. If the downtrend is to continue, we need to see confirmation of a breach below support at 0.89, last week’s low.

On the upside, the first line of resistance will be met around 0.9050-0.9070 range, which held pretty solidly for the most part of the last 6 months. The bulls will target 0.9120 next as a break above that mark will shift the medium-term outlook from sideways to bullish. The buyers will also watch the 23.6% Fibonacci retracement at 0.9175.

Over the long term, one possible interpretation is that so far, on a relative basis, North America has done better than Asia, but a rebound in Aussie could suggest it’s time to shift alliances into Asia. After all, the demographics are clearly on Asia’s side and demographics has been dubbed as the top driver for future economic growth.