Currency Counter-Cyclicality

You cannot read an article on the merits of buying international currencies without finding the assertion that currencies often act as a counter cycle to the stock market.  It is, it appears, axiomatic in the financial industry. Here is some evidence of this property.

In the charts below I use two independent sources of information: iShares NAV data on some of their “country” funds, and the NAV data from Rydex on their currency ETFs for the same countries.  I am using only the last year for most of the charts, as the last year is a picture perfect time to show what I want to show.  In the charts below, the red line is always the currency NAV and the blue line is the equity market.

First of all, as you will notice as you read down the charts, November 7, 2007 was, almost to the day, the moment when international equities markets rolled over.  Certainly, in almost every case, between November and January, 2008, virtually every country index shown, headed south!  The Australian stock market provides a good example of this, as you can see below.  The blue line represents iShares Australian Index Fund (EWA), which dropped about  25% from November 7, '07 through June 20, 2008. 

The Euro zone was not much different.  This index lost about 15-16% over the last year.  Only Sweden turned over a little later, and only Mexico and Switzerland turned over a little earlier.  

The equity markets in Sweden actually turned down several months before the others.

Interestingly enough, the Swiss economy was the most stable of those shown, as it usually is.  The country has a long history of being remarkably independent of the rest of Europe, and in this decline it lost the least of any country shown.  

The Mexican peso is pegged to the U.S. dollar, so its rise is substantially muted because of this.  But, as with the other currencies, if interest earnings were factored into this chart, the peso would show a much more substantial gain. 

Lastly, as a side note on new happenings in the currency market, there is good news for those who like pegged currencies: Rydex has filed with the SEC for four new currency ETFs.  They are the Honk Kong dollar, the Singapore dollar, the Russian ruble and the South African rand. 

The Honk Kong dollar is pegged to the U.S. dollar, so it will offer the carry trade investors another target for relatively high interest rate earnings and a stable currency.  The chart below shows how tight Honk Kong keeps the peg. The data is for 2008.

Also, Wisdom Tree has filed for seven new currency ETFs: Australian dollar, pound sterling, Canadian dollar, New Zealand dollar, South African rand and the South Korean won. Plus, our friends at ProShares have filed for ultras and super ultras, up, down, double up and double down for a host of currencies. The mind boggles at the opportunities. However, the risks, too, are boggling, so I will stay with my stogy old carry trade play. I am glad, though, to have some other options on the horizon for my kind of investing. It will allow me to further diversity my currency holdings, which I consider a primary strategy for all investing decisions.

Comments

[User 96254]

please elobrate

[rayhendon]

elobrate what?