Markets

Gold - FOREX Correlations Deteriorate but NZD/USD Holds Strong as Interest Rate Expectations Rise

Gold has been receiving an increasing amount of attention recently as the metal soars to new record levels. But you don't have to trade gold to benefit from the metal's recent volatility. In fact, many of the popular currency pairs have been moving in tandem with gold, offering forex traders an opportunity to piggyback on the uptrend or bet against it, with the added benefit of trading within the world's deepest and most liquid market.

The following table includes the correlation between gold and the most popular currency pairs over various timeframes. A value close to +1 indicates a strong positive relationship between gold and the pair, while a value close to -1 indicates a strong negative relationship.

---------------------------------------------------------------------------------------------------------------------------------

Gold USD/CAD AUD/USD NZD/USD EUR/USD GBP/USD USD/JPY USD/CHF
15 Min, 3 Day -0.82 0.66 0.71 0.75 0.43 -0.62 -0.58
60 Min, 1 Week -0.82 0.64 0.76 0.53 0.35 -0.59 -0.28
60 Min, 2 Weeks -0.82 0.64 0.82 0.52 0.76 -0.11 -0.75
Daily, 1 Month -0.78 0.79 0.92 0.72 0.67 -0.35 -0.68

Weekly Commentary: Gold - Forex correlations weakened across the board in the latest week and could be poised to weaken further if intraday correlations are any indication. USD/CHF, for example, saw its daily correlation with gold deteriorate from -0.95 last week to -0.68. Moreover, its 60 minute correlation with gold fell from -0.87 to -0.28. Indeed, this past week saw more than one occasion in which both gold and the dollar moved in the same direction, which is obviously contrary to the inverse movement we would typically expect.

So are we in for a period in which gold's correlation with the dollar temporarily breaks down? This is definitely a possibility. Consider that the dollar may remain weak as the Federal Reserve's second round of quantitative easing kicks into gear. At the same time, gold is extremely overbought, with investment flows into the metal as measured by ETF holdings showing signs of near-term exhaustion (more on this below). In such a scenario, both the dollar and gold could fall.

That being said, one pair in particular has maintained an extremely strong correlation with gold. NZD/USD saw only a minor weakening in its one-month daily correlation with gold, from 0.96 to 0.92. The intraday correlation took a bigger hit, however, with the one-week 60 minute correlation weakening from 0.89 to 0.76. Nonetheless, currently this pair is the best one to trade for those wishing to gain proxy gold exposure in the forex markets.

There are some fundamental underpinnings to the correlation between NZD/USD and gold. This week we saw market expectations for future interest rate hikes from the New Zealand central bank rise notably after the latest policy decision . Overnight index swaps indicate that the RBNZ may raise rates by 75 basis points over the next twelve months; that's up from 50 basis points earlier this week. Higher interest rates translate into tighter monetary conditions.

\

\

---------------------------------------------------------------------------------------------------------------------------------

\

Despite the fact that gold ETF holdings fell for a second week, prices for the metal rose almost $16. This pattern of gold prices defying movements in ETF holdings is one that we have been observing for almost three months now. But now that holdings are decreasing instead of just rising modestly, perhaps gold will finally begin to sell off a bit. Prices are still over $45 down from the all-time highs put in a few weeks ago so this week's rally may just be part of the topping process.

DailyFX provides forex news on the economic reports and political events that influence the currency market.

Learn currency trading with a free practice account and charts from FXCM.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

Other Topics

Commodities