Aussie/Kiwi Spread: Rollover and Prepare to Add More

Exit Christmas Contracts

The IMC blog entered a long position in the December Australian dollar/New Zealand dollar spread at 3.42 cents (premium Aussie) on September 22nd.  With the upcoming expiration of the December contracts, it is time to roll to the March spread.

Two and a half months after entering this spread, it is sitting at nearly the same level as the purchase price!  As they say down here in the South, “This dog won’t hunt.”

aussie-kiwi-spread-nearest-futures-weekly

Aussie $ Kiwi$ spread (nearest-futures) weekly

However, the blog is maintaining a long position because the macro view indicates that we are holding the spread at a price that is historically cheap and previously unsustainable.  As you can see on the weekly nearest-futures chart, buying the spread below four cents would have led to profitable trades as the spread more than doubled off the lows.  So we’re willing to sit patiently to see if this sort of wager will pay off once again.

Near-term Price Hurdle

The March Australian dollar/New Zealand dollar spread rallied in the late summer and peaked out at a price of 5.31 cents on August 9th.  After a plunge to new multi-month lows in mid-September, the March spread once again reversed and ran higher.  The one-month run topped out at 5.27 cents on October 14th.

march-2017-aussie-kiwi-spread-daily

March 2017 Aussie $ Kiwi$ spread daily

The similar August and October highs form a price hurdle for the March Australian dollar/New Zealand dollar spread.  However, this is good news!

Why?

Because the price hurdle creates a clearly-defined breakout point.  A sustained close above this level would signal that the spread is finally serious about making a recovery.  Since such an event would mean that the current long position has an open profit to cushion it, aggressive traders could add to long Australian dollar/New Zealand dollar spread position on the breakout.

Trade Strategy:

Exit the long December Australian dollar/New Zealand spread and simultaneously purchase a March Australian dollar/New Zealand spread at the market-on-close on Wednesday, December 7th.  Initially, the spread will be liquidated on a two-consecutive day close below 2.00 cents. 

‘Add-On’ Trade Strategy:

For tracking purposes, the IMC blog will make a hypothetical ‘add-on’ trade by buying one March Australian dollar contract and simultaneously selling one March New Zealand dollar contract if the spread closes above 5.31 cents (premium Aussie).  If filled, the spread will initially be liquidated on a two-consecutive day close below 3.42 cents. 

Loonie/Kiwi Spread: On the Cusp of a Trend Change

Parameter Revision

The IMC blog is working a hypothetical order to buy the December Canadian dollar/New Zealand dollar spread on a breakout above the August high.  We’re going to update the parameters for this trade, changing both the contracts traded and the entry level.

First of all, we are now going to start tracking and trading the March 2017 contracts.  The December currency contracts will be history in the next week or so.

Secondly, instead of waiting for a breakout above the August high, we are going to go long on a breakout above the declining 100-day Moving Average.  The reason for this is that breakouts above/below the 100-day MA on the nearest-futures chart have been highly accurate in identifying trend changes over the last several years.  More often than not, the move continued in the direction of the breakout for months afterward and the moves were hundreds of basis points in size.  That’s tradable.

canadian-kiwi-spread-daily-100-day-ma

Canadian $ Kiwi $ spread daily (100-day MA)

In addition, the Canadian dollar/New Zealand dollar spread had previously bottomed at 3.87 cents in March 2014, 3.97 cents in March 2015, and 3.84 cents in December 2015.  This created a floor of support around the four-cent mark.

The four-cent support level was breached in September and the spread recovered a month later.

The spread once again sank below four cents in the second half of October.  This time, it accelerated lower and posted a multi-decade low of 1.36 cents on November 8th.

But just two weeks later, the Canadian dollar/New Zealand dollar spread had rocketed back up to the four-cent mark and has been flip-flopping around it since.  The fact that the spread just can’t stay below the four-cent mark indicates that it is undervalued down here.  This is supportive of a long position.  If we can combine that with a sustained close back above the 100-day MA for the first time since early June, it would greatly increase the probabilities that the spread finally makes a sizable run higher.

Trade Strategy:

Cancel the order to buy the December Canadian dollar/New Zealand dollar spread and place a new hypothetical order to buy one March Canadian dollar contract and simultaneously sell one March New Zealand dollar contract if the March spread closes above the 100-day Moving Average (currently around 4.42 cents).  If filled, the spread will initially be liquidated on a two-consecutive day close below the November 29th reaction low of 3.54 cents. 

 

Aussie/Kiwi Spread: Returning to the Historic Low?!

Still Down Under

The IMC blog entered a long position in the September Australian dollar/New Zealand dollar spread at 4.31 cents (premium Aussie) on July 14th and exited at 2.11 cents (premium Aussie) on September 12th.  The break to new contract lows triggered the liquidation order.

This morning the Aussie dollar has a premium of less than two cents over the Kiwi dollar and the ratio hit 1.03:1.  There is currently nothing to stop this spread from returning to the April 2015 historic low of 0.61 cents.  Who knows, maybe the it’s on the way to ‘even money’ or even to where the Kiwi finally has the premium!

aussie-kiwi-spread-nearest-futures-daily

Aussie Kiwi spread (nearest-futures) daily

At some point, however, this trend will end.  We want to participate in the upswing when it happens.

Right now, there are two price points of interest on the charts.  The first is one we already mentioned: the April 2015 historic low of 0.61 cents.  If the spread gets here, we will be watching it very close to see what transpires.

The second point of interest is the July low of 2.67 cents on the December chart.  This was an important support level.  Now that it has been broken, it has turned into an important resistance level.  A close back above this price would indicate that a recovery is at hand and a close above the current September high of 2.86 would make the odds even more favorable.

december-aussie-kiwi-spread-daily

December Aussie $ Kiwi $ spread daily

I love Peter Brandt’s analogy for this “support turned resistance” idea.  He calls it the ice line.  Brandt says that the price low is like the ice on a frozen lake.  It supports you as you walk out on it to go ice fishing, skating, etc.  It should hold.  But if the ice cracks and you fall through, you are now underwater.  That ice line has suddenly turned into an overhead resistance barrier!  You need to get your head back above the ice and crawl out of the water if you want to survive.  For all you fellow Floridians who can’t relate to this idea on a personal level, go watch Fargo and you’ll get an idea of what I’m talking about.

For now, the blog will look to reestablish a long position in the Aussie/Kiwi spread if it can crawl it’s way out of the water.

Trade Strategy:

For tracking purposes, the IMC blog will make a hypothetical trade by buying one December Australian dollar contract and simultaneously selling one December New Zealand dollar contract if the spread closes above 2.86 cents (premium Aussie).  If filled, the spread will initially be liquidated on a two-consecutive day close .25 cents below the contract low that precedes the entry. 

Loon/Kiwi Spread: What Will Break the Bearish Pattern?

Trade Exit

On July 29th the IMC blog initiated a long position in the Canadian dollar/New Zealand dollar spread at 4.75 cents (premium Canada).  The position was liquidated at 3.57 cents on September 1st.  This resulted in a loss of $1,180 per spread.

Canadian $ Kiwi $ spread (nearest-futures) daily

Canadian $ Kiwi $ spread (nearest-futures) daily

Despite the hit, we are ready to jump right back in on a recovery signal.  After all, the loon/kiwi spread has been historically undervalued for the last few months.  And over the last few years, dips below the 4-cent level have been followed by rallies of several hundred basis points.

The New Parameters

The December Canadian dollar/New Zealand dollar spread made an important price peak at 11.46 cents back in April.  Since then, the spread has not cleared a prior month’s high.

Furthermore, the spread has now made lower lows for four consecutive months.  The August and September lows were even new contract lows.

December Canadian $ Kiwi $ spread daily

December Canadian $ Kiwi $ spread daily

This pattern of lower highs and lower lows is bearish.  To alter the price structure and indicate that the downtrend may have come to an end the spread needs to clear a prior month’s high.  Therefore, the blog will use a close above the August high as a trigger to reenter a long position this month.  If that doesn’t happen by September 30th we will lower the entry price level.

More confirmation

Let’s continue to keep an eye on the 75-day Moving Average as well.  When the Canadian dollar/New Zealand dollar spread made closes above the 75-day MA in May 2014, April of 2015, and March of 2016 there was follow-thru of several hundred more basis points.  So a close above the 75-day MA for the first time since just before Memorial Day weekend could be a good confirmation that a new run higher is in full swing.

Trade Strategy:

Place a hypothetical order to buy one December Canadian dollar contract and simultaneously sell one December New Zealand dollar contract if the spread closes above the August high of 5.78 cents (premium Canada).  If filled, the spread will initially be liquidated on a two-consecutive day close 25-basis points below the contract low that precedes the entry.

Loon/Kiwi Spread: A Long Position Was Initiated

Buying the Bottom…Hopefully

Today the IMC blog initiated a long position in the Canadian dollar/New Zealand dollar spread at 4.75 cents (premium Canada).  Initially, the position will be liquidated on a two-consecutive day close below 3.75 cents.

Canadian $ Kiwi $ spread daily

Canadian $ Kiwi $ spread daily

We are now monitoring on the 75-day Moving Average.  The last few closes above the 75-day MA have been followed by further gains of several hundred more basis points in this spread.  Therefore, a close back above the 75-day MA for the first time since the end of May would be a green light to add more.

However, instead of setting parameters to automatically add on the close above the 75-day MA, we will assess the situation after it occurs.  We will need to see how far above the 75-day MA the Canadian dollar/New Zealand dollar spread closes, whether or not it experiences a pullback, and what size of countertrend moves the spread makes in order to get a feel for the volatility.  That way, we will be able to make a better-informed decision on entry and initial exit levels.  This will also give us a better feel for the reward-to-risk potential on the trade.

Loon/Kiwi Spread: Bottom Fishin’ For…Birds?!

So Close, Yet So Far Away

Canada and New Zealand.  Countries on different sides of the globe.  On opposite sides of the equator even!  Yet, their currencies tend to run close together.

The reason for the correlation is due to the fact that the two currencies are both those of commodity-rich countries.  We posted a similar story yesterday about the correlation between the Australian dollar and the “kiwi” (New Zealand dollar).  This relationship makes more sense, given the geographical and economic relationship between Australian and New Zealand.  But the fact of the matter is that the “loon” (Canadian dollar) has a strong correlation to the currencies of these two countries as well.

Canadian $ Kiwi $ overlay weekly

Canadian $ Kiwi $ overlay weekly

Although the loon and the kiwi normally trend in the same direction, the New Zealand dollar has outperformed the Canadian dollar for the last couple of years.  The Kiwi stayed in a trading range in 2013 while the loon steadily declined.  Both currencies dropped in 2014 and through most of 2015.  But the kiwi bottomed out last September while the loon didn’t put in a bottom until January.

Spread Levels

Back in early 2004, the spread Canadian dollar/New Zealand dollar spread bottomed out at a multi-year low of 611-basis points.  This means that the loon was priced at just over six cents more than the Kiwi.  This proved to be an historic low.  The spread initially bounced for a few months, retreated to 6.68 cents by the spring of 2005, and then rocketed to just over 29 cents by the summer of 2006.

The loon’s fat price premium became the ‘new normal’ as it consistent made run-ups to 28.5 cents or higher in 2007, 2008, 2009, 2010, and 2011.

Canadian $ Kiwi $ spread weekly

Canadian $ Kiwi $ spread weekly

Things changed in the second half of 2011.  The loon/kiwi spread broke out of the bottom of the multi-year trading range and began a multi-year descent.

By the first quarter of 2014, the spread tested and broke the 2004 low of 6.11 cents.  This put the difference between Canadian dollars and New Zealand dollars at the smallest price in a couple of decades!

Recent History

After the three-year slide from the early 2011 top to the early 2014 bottom, the Canadian dollar/New Zealand dollar spread stabilized and built a trading range.  The price boundaries of the last couple of years have defined an obvious support level.

Canadian $ Kiwi $ spread (nearest-futures) daily

Canadian $ Kiwi $ spread (nearest-futures) daily

On the daily timeframe, the nearest-futures loon/kiwi spread established a record low of 3.87 cents on March 18, 2014.  It then rallied 8.53 cents over the following six months.

The spread headed south again and established a low of 3.97 cents on March 23, 2015.  This was the launching pad for a 9-cent rally that lasted for three months.

By just a fraction of a cent, the spread posted a new record low of 3.81 cents on December 28, 2015.  Unsurprisingly, a reversal quickly followed.  The loon/kiwi spread rallied slightly more than seven cents over a four-month period.

You Are Here

One week ago, the Canadian dollar/New Zealand dollar spread closed below the 4-cent mark for the first time in 2016.  The low of the move (so far) was posted at 3.96 cents just three days ago.

The spread bounced sharply on Wednesday and Thursday, closing at 5.7 cents just yesterday.  Heck, it even touched 6.5 cents on an intraday-basis earlier this morning!  Based on the price range and the behavior patterns of the last couple of years, it seems that this should be the start of a multi-month rally for the loon/kiwi spread.

How to Play It

Over the last several years, the 75-day Moving Average has done a pretty good job of confirming both the uptrends and the downtrends in the Canadian dollar/New Zealand dollar spread.  The catch, of course, is that a moving average is a lagging indicator.

The lag characteristic of a moving average is normally not a problem.  This is especially true if the market has still been able to continue its trend long after the crossover above/below the moving average.  This is why I often use moving average signals to enter/exit spread trades.

Canadian $ Kiwi $ spread daily (75-day MA)

Canadian $ Kiwi $ spread daily (75-day MA)

But there is a problem this time around.  You see, the moving average is currently located at 8.18 cents.  That’s a whopping 248-basis points above yesterday’s closing price.  Yikes!  So waiting for a close above the 75-day MA to get long would leave a lot of money on the table.

So here’s my solution:  Look for a setup to get long somewhere down here.  In other words, do some bottom fishing.  Then use a close above the 75-day MA as a green light to start pyramiding.  That way you’d already have an open profit to provide a nice cushion when the loon/kiwi spread finally clears the 75-day MA.

Bottom Fishin’

So now we have to figure out a way to get long down here.  Looking at how it played out the last three times, I offer these observations and thoughts.

After the March 2014 bottom, the spread rallied 1.67 cents and closed at 5.54 cents.  It then pulled back 86-basis points to close at 4.68 cents.  This retraced 51% of the initial bounce.

After the March 2015 bottom, the spread rallied 1.51 cents and closed at 5.48 cents.  It then pulled back 118-basis points to close at 4.30 cents.  This retraced 78% of the initial bounce.

After the December 2015 bottom, the spread rallied 1.66 cents and closed at 5.47 cents.  It then pulled back 142-basis points to close at 4.05 cents.  This retraced 86% of the initial bounce.

Based on this pattern, it seems reasonable to expect a pullback after this initial bounce.  Furthermore, buying a pullback below the 5-cent level and risking to new closing lows could be a low-risk way to throw a line in the water on the long side of this spread.  Once the uptrend is confirmed via a close above the 75-day MA, the position could be pyramided.

Trade Strategy:

Place a hypothetical order to buy one September Canadian dollar contract and simultaneously sell one September New Zealand dollar contract at a spread of 4.75 cents (premium Canada).  If filled, the spread will initially be liquidated on a two-consecutive day close below 3.75 cents. 

Aussie/Kiwi Spread: Is the Trip ‘Down Under’ Finally Over?

Preface

This blog post focuses on the Australian dollar/New Zealand dollar spread.  However, there are points that will also benefit readers who are interested in the Australian dollar on its own merit and also readers who are interested the overall view of the commodity markets.  Thanks for reading!

Birds of a Feather

There is a very strong correlation between the Australian dollar (often referred to as the “Aussie”) and the New Zealand dollar (nicknamed the “kiwi” after the bird that is the nation’s icon).  That’s to be expected.  Most of New Zealand’s exports go directly to Australia, so the Kiwi economy basically acts like a mini version of the Australian economy.

Aussie $ Kiwi$ overlay weekly

Aussie $ Kiwi $ overlay weekly

The currencies of these two countries are joined at the hip.  Look at the weekly price plot of the last two decades and you will see that they move together.  However, one can sometimes move faster than the other.  This can create spread trade opportunities.

Historic Spread Levels

The Australian dollar trades at a premium over the New Zealand dollar.  Perhaps this is due to the fact that it’s the bigger of the two economies.  Whatever the reason, the size of that premium fluctuates.

Aussie $ Kiwi$ spread weekly

Aussie $ Kiwi $ spread weekly

Over the last two decades, the Aussie/Kiwi spread has provided good buying opportunities whenever it has dropped below 4 cents (premium Aussie).  It has only happened a handful of times, but each occurrence was followed by a rebound over the following months.

Aussie $ Kiwi$ spread (2003-2004) daily

Aussie $ Kiwi $ spread (2003-2004) daily

When the spread sank below 4 cents in 2003, it quickly recovered and rallied 729-basis points (about seven and one-quarter cents) into the spring of 2004.

Aussie $ Kiwi$ spread (2004) daily

Aussie $ Kiwi $ spread (2004) daily

In September 2004, the Aussie/Kiwi spread traded below 4 cents again.  It then surged a little more than four cents over the next two months.  However, the spread quickly backed off again and was confined to a trading range for the next year.

Aussie $ Kiwi$ spread (2005-2006) daily

Aussie $ Kiwi $ spread (2005-2006) daily

After a final low of 3.60 cents was established at the beginning of December 2005 the spread began an eleven and three-quarter cent rally over the next five months.

Aussie $ Kiwi$ spread (2015-2016) daily

Aussie $ Kiwi $ spread (2015-2016) daily

The Aussie/Kiwi spread breached the 4-cent level again in December 2014.  It didn’t bottom until the second half of April 2015 when it hit a historic low of 0.61 cents.  Despite the fact that new lows were made in the spread and it was argued that, because of changes in the fundamentals, “it’s different this time”, the spread reversed sharply and rallied nearly nine cents in just over two months.

2016: Third Time Is the Charm?

The spread fell back below the 4-cent mark last October.  From there it rallied a little over three cents.  It wasn’t the start of a new bull market, though.

The Aussie/Kiwi spread sank below 4 cents again at the start of this year and then rallied to 8.7 cents by the end of Q1.  Still, it was not the sustained move we would hope for.

On Thursday, June 9th the nearest-futures Aussie/Kiwi spread traded to a thirteen-month low of less than 3 cents (premium Aussie) and cracked the similar October and January lows of 3.65 cents and 3.7 cents.  This was attributed to the Kiwi surging as much as 2% after the Reserve Bank of New Zealand left interest rates unchanged and then said they expect inflation to accelerate.

The spread stayed below the magical 4-cent level for over a month.  Just a week ago, the September Aussie/Kiwi spread hit a fourteen month low of 2.59 cents.  So the big question is:

Aussie $ Kiwi$ spread (nearest-futures) daily

Aussie $ Kiwi $ spread (nearest-futures) daily

Now that the 4-cent level has been breached for the third time, perhaps the turnaround that eventually follows will be the real deal and not just another multi-week bounce?  Perhaps.  After all, this spread has been stuck in a wide trading range for months now.  A sustained breakout is overdue.

Historic Ratio Levels

As always, we like to use the ratio as a confirmation tool for spreads that we discuss.  The ratio helps normalize a spread relationship.  This is especially valuable when analyzing markets that are trading near their historic highs/lows.

In terms of identifying the bargain levels for the ratio, you want to look for a level that the ratio hits infrequently.  Moreover, you want it to be at a level where the ratio does not spend too much time there when it does get hit.

Aussie $ Kiwi$ ratio weekly

Aussie $ Kiwi $ ratio weekly

In this case, a ratio of 1.1:1 (this is where the Aussie is priced 10% over the kiwi) seems to be the point where traders should start looking for buying opportunities.  Sometimes the ratio will tag 1.1:1 and immediately turn around and rocket higher for months/years afterwards.  That is what happened in late 1997, mid-2007, and Q4 of 2008.

At other times, the ratio hits 1.1:1 and chops around for months or even years before the inevitable trend reversal happens.  This occurred in late 2002 and again in the second half of 2004.

Our current situation falls into the second category.  The Aussie/Kiwi ratio hit 1.1:1 in December 2013.  For the last two and a half years, it has been tethered to this level as it has not yet made a sustained move away from it.  Considering how long this has been going on, the consolidation period is getting long in the tooth.  A trend should manifest sooner rather than later.

Sinking Even Further

Now here’s where the situation gets even more compelling…

The Aussie/Kiwi ratio bottomed out at 1.05:1 in late 2005.  This proved to be a historic low as a multi-year bull market followed, even though there were some sharp corrections along the way.

The ratio broke the 1.05:1 mark last year and hit a multi-decade low of 1.01:1 last spring.  Despite the bounce, the September Aussie/Kiwi ratio closed at 1.04:1 just last week.  So not only do we have a consolidation period that’s longer than normal, but we’ve also got a new historic low established during this period.  When things get this extreme in terms of both price and time, the pendulum will inevitably swing the other way.

Currency Trend Change

Many times, the Aussie/Kiwi spread will follow the trend of the Australian dollar.  Therefore, it can be beneficial to know what’s going on in the underlying currency.

There are currently a couple of things that lend itself to the argument that the Aussie dollar has finally bottomed.  If so, this would be a supportive factor for the Aussie/Kiwi spread.

First of all, the Aussie dollar peaked out at a record high in July 2011.  So if the current multi-year low that was established back in January marks the bottom, then this bear market will have lasted for four years and six months.  The longest bear market that precedes this one occurred between December 1996 and April 2001.  The duration of this bear market was four years and four months.  This time symmetry argues that the bear market is over.

Aussie $ (nearest-futures) monthly

Aussie $ (nearest-futures) monthly

Second, the Australian dollar crashed 38% from the highs during the 2008 financial crisis.  For a currency, that’s a pretty severe routing!  Now get this: the Aussie has once again declined 38% from the July 2011 top into the current bear market low.  This price symmetry also argues that the bear market may be over.

I will point out, however, that the Aussie dollar dropped nearly 42% during the 1996-2001 bear market.  That’s obviously a bigger percentage decline than the current bear market.  There’s no rule that says the current 38% decline can’t be exceeded or that the 42% decline won’t be bested.

But

We should also consider the size of the price decline.  The 42 and a half-cent decline during this bear current market is larger than the 34-cent decline during the 1996-2001 bear market and the 37.7-cent decline during the 2008 bear market.  From this perspective, the current Aussie dollar bear market is bigger than the last two.

Another Sign of the Times

One technical indicator that we can monitor for confirmation of a trend change is the monthly 20-bar Moving Average.  The Aussie dollar has closed below the monthly 20-bar MA every single month for over three years now.  The bounce into the 2014 high ended after the Aussie tagged the monthly 20-bar MA and backed off.  The currency poked its head above the monthly 20-bar MA in April, but quickly reversed and shed almost seven cents from the top.  Needless to say, the monthly 20-bar MA has proven to be stiff technical resistance.

If the Aussie dollar finishes the month above the monthly 20-bar MA for the first time since April 2013 it will signal a bullish trend change.  That could happen as early as two weeks from now.  The 20-bar MA is currently at .7459 and the nearest-futures Australian dollar is trading at .7622, so all it has to do is hold up for eleven more trading days.

And if the trend change doesn’t happen this month, the 20-bar MA will be even lower when the month of August starts!

Keep in mind that a close above the monthly 20-bar MA is not a sure thing buy signal.  Nothing works all the time.  If some claims that they have a magical Holy Grail signal that works every time, they are either liars…or just plain stupid.  However, when this same signal was triggered after the 1996-2001 bear market and again after the 2008 bear market, multi-year bull markets in the Aussie dollar followed.  So it’s certainly worth paying attention to.

Commodity Connections

There’s one more reason that the Aussie may be on the cusp of a major trend change and, therefore, the Aussie/Kiwi spread may be ready to finally leave its nest and fly north.  That reason is the turnaround in the commodities markets.

The Australian dollar and the New Zealand dollar are often referred to as commodity dollars.  Although we’re not currently discussing it in this post, the Canadian dollar is also considered a commodity dollar.  This is because their economies are major commodity producers.  As a matter of fact, Australia is the world’s third-largest gold producer.

GSCI Aussie $ overlay monthly

GSCI Aussie $ overlay monthly

To get a macro view of commodity prices, simply look at a commodity index.  Comparing the price action of the last couple of decades of the Goldman Sachs Commodity Index to the Aussie dollar confirms the accuracy of the commodity dollar title.  It is immediately obvious that the overall price trends are the same and the major turning points are often synched up together.  If one can identify where commodities are going, the Aussie dollar can often be traded as a proxy for commodities.  This is good news because the currency is a lot more liquid than the commodity indices.

The Commodity Bull Returns

Many commodity indices –including the Goldman Sachs Commodity Index– bottomed at multi-year lows in January.  As a matter of fact, the CRB index even hit a multi-decade low!  As it turns out, the commodity bear market that started from the 2011 top was the longest commodities bear market that has occurred in the last 115 years.

Furthermore, the size of the decline made it the third or second-largest commodity bear market in history, depending on which commodity index you’re looking at.  After the rubber band has been stretched this far for this long, the odds are that the inevitable trend reversal in commodities would immediately be followed by a sizable new bull market.

GSCI monthly (10-bar MA)

GSCI monthly (10-bar MA)

Back in April, the Goldman Sachs Commodity Index made a month-end close above the declining monthly 10-bar Moving Average for the first time in nearly two years.  This was a bullish development, especially when you consider that the rally into the 2015 spring highs –which marked the top for the year- was established after the GSCI neared the monthly 10-bar MA and backed down.

This same bullish trend change signal also alerted traders to the beginning of multi-year bull commodity markets in 1999, 2002, and 2009.

In addition, the GSCI is on the cusp of closing above the monthly 20-bar Moving Average for the first time in two years.  The 20-bar MA obviously moves at half the speed of the 10-bar MA, but the trade-off is that it provides a higher accuracy trend change signal.  This is because it is not as sensitive to monthly price changes, which helps smooth out the price trend.  At any rate, a month-end close above the monthly 20-bar MA will confirm the trend change in commodities.

GSCI monthly (20-bar MA)

GSCI monthly (20-bar MA)

As goes commodities, so goes the Aussie dollar.  As goes the Aussie dollar, so goes the Australian dollar/New Zealand dollar spread.  By all appearances, it’s about to go NORTH.  Trade accordingly.

Trade Strategy:

For tracking purposes, the IMC blog will make a hypothetical trade by buying one September Australian dollar contract and simultaneously selling one September New Zealand dollar contract if the spread closes above 4.00 cents (premium Aussie).  If filled, the spread will initially be liquidated on a two-consecutive day close .25 cents below the contract low that precedes the entry. 

Aussie/Kiwi spread: Cancel the Buy Order For Now

Australian Dollar/New Zealand Dollar Spread

About two months ago, the Australian dollar/New Zealand dollar spread reversed off of a fifteen-year low and closed above the declining 50-day Moving Average for the first time since early November. This triggered a bullish trend change. In response, the IMC blog put out a hypothetical trade alert to go long on a small pullback to the 50-day MA and a Fibonacci .382 retracement.

Australian Dollar New Zealand Dollar spread (continuous) daily

Australian Dollar New Zealand Dollar spread (continuous) daily

In hindsight, waiting for a small pullback was a bad idea. The spread did not quite reach our entry level. Instead, it rocketed several hundred basis-points higher for the next several weeks. At the June 23rd seven and a half month high of almost nine cents (premium Aussie), the Australian dollar/New Zealand dollar spread has left us in the dust.

Since our initial entry level is now so far away, it seems that the prudent thing to do right now is to simply cancel the order and keep this spread on the watch list.

Trade Strategy:

Cancel the hypothetical order to buy one September Australian dollar/New Zealand dollar spread at 2.60 cents (premium Aussie).

Australian Dollar/New Zealand Dollar Spread: From Down Under To Up And Over?!

Australian Dollar/New Zealand Dollar Spread

As most people would expect, the Australian dollar and the New Zealand dollar are highly correlated. This makes sense because they are trading partners with a very close geographical proximity. New Zealand exports a ton of stuff to Australia, so the Kiwi economy usually mimics the Aussie economy.

Australian Dollar New Zealand Dollar overlay weekly

Australian Dollar New Zealand Dollar overlay weekly

The two currencies have basically moved in lock-step with each other for the last three decades (the Australian dollar became a free-floating currency in 1983 and the New Zealand dollar became a free-floating currency two years later in 1985). Although the Kiwi generally rides on the coattails of the Aussie dollar, interest rate differentials can sometimes allow the Kiwi to outperform.

The Commodity Connection

The Australian dollar and the New Zealand dollar are often referred to as ‘commodity dollars’ since they have a strong link to commodities. In particular, the Australian dollar has close ties with the gold market since Australia is the world’s third-largest gold producer.

Australian Dollar Goldman Sachs Commodity Index overlay weekly

Australian Dollar Goldman Sachs Commodity Index overlay weekly

When you look at the last couple of decades of commodity prices as represented by the Goldman Sachs Commodity Index, you can see that the overall price trends are the same and the major turning points are often synched up together. If one can identify where commodities are going, the Aussie dollar can be traded as a proxy.

Down Under, Way Down Under

Both as a ratio and a spread, the difference between the Australian dollar and the New Zealand dollar has reached an extreme low. On April 3rd the Aussie dollar had a minuscule premium of roughly one-third of a cent over the Kiwi dollar. The difference between the two currencies was nearly 1:1 in ratio terms.

Australian Dollar New Zealand Dollar spread weekly

Australian Dollar New Zealand Dollar spread weekly

This is the closest in price that these two currencies have been in at least a decade and a half. It’s not very common. The Aussie usually has a premium of a dime or more over the Kiwi. Most likely, the multi-year bear market in commodities is a main driver in the Aussie/Kiwi spread collapse.

Current Market Situation

We’re at an interesting juncture here. First of all, the Australian dollar/New Zealand dollar spread it at an extreme low. History indicates that this won’t last, so spread traders should have been watching closely for a reversal signal.

September Australian Dollar New Zealand Dollar spread daily

September Australian Dollar New Zealand Dollar spread daily

That reversal may have happened this week. The September Australian dollar/New Zealand dollar spread made a two-day close above the declining 50-day Moving Average for the first time since the first week of November. Traders now have a green light to start getting long.

Secondly, the commodities bear market into the Q1 lows is the longest commodities bear market in the last 115 years and the size of the decline is the fifth or fourth-largest in history, depending on which commodity index you’re looking at. Now that the rubber band has been stretched this far for this long, the odds are that commodities are overdue for a sizable reversal and a new bull market. So goes commodities, so goes the Aussie dollar and so goes the Australian dollar/New Zealand dollar spread.

Goldman Sachs Commodity Index Daily

Goldman Sachs Commodity Index Daily

In mid-April the Goldman Sachs Commodity Index closed above the declining 100-day Moving Average for the first time since early July and surpassed the Q1 high. Today the DJ-UBS Commodity Index closed above the declining 100-day Moving Average for the first time since June. Another 2% higher and this index will surpass its Q1 high as well. This very well could be the start of a new bull market in commodities. If so, the probabilities are extremely favorable that the Aussie will make a spectacular recovery. So should the Aussie/Kiwi spread.

Finally, the US dollar index posted a multi-year high last month. It was on a Friday the Thirteen, no less! The ten-month run that got it there increased the value of the greenback by 27%. This is the second-largest and second-longest run in over three decades of price history. The US dollar index often has a negative correlation with commodities, so the soaring greenback and simultaneous plunge in commodities is not a surprise to anyone.

US Dollar Index (cash) Daily

US Dollar Index (cash) Daily

With this week’s upside breakout in the Aussie/Kiwi spread and the bullish trend change in the commodity indices, it is certainly fitting that the US dollar index triggered a bearish trend change this week as well. On the daily timeframe, the greenback made a two-day close below the rising 50-day Moving Average for the first time since early July. The long-term timeframe caught up with the reversal signal today when the buck cracked the March low. Over the last ten months, the dollar has only broken a prior month’s low on one occasion and it was a mere one-tick infraction. Today’s price break altered this price structure and confirms the bearish trend change from the daily timeframe.

There’s a saying that things happen in three’s. This week’s simultaneous trend changes in the Australian dollar/New Zealand dollar spread, the commodity indices, and the US dollar index certainly counts for that. The problem is that it happened with such gusto that a counter-trend move could happen before we go into the weekend and the new month. But one man’s misfortune can be another man’s fortune. So instead of buying the breakout right here, our opinion is that a trader may want to initially look for some sort of pullback to establish a long position.

Now that it has been broken, the 50-day Moving Average (currently around 2.62 cents) becomes new technical support for the September Australian dollar/New Zealand dollar spread. Coincidentally, a Fibonacci .382 retracement of the recent rally from the contract low is at 2.64 cents. Therefore, buying a pullback into this confluence of technical support might be a good way to get the ball rolling.

Trade Strategy:

For tracking purposes, the blog will make a hypothetical trade by buying one 100,000 (AD) September Australian dollar contract and simultaneously selling one 100,000 (NZD) September New Zealand dollar contract at a spread of 2.60 cents (premium Aussie). Initially, the spread will be liquidated on a two-consecutive day close below 0.60 cents (premium Aussie).