We have a great question here from Gabra, who asks how they can weigh which instruments are the strongest or weakest when we have strong risk on or risk off sentiment, are there times when one of them will be weaker and stronger than the other.
Thanks for the question, I think it allows us to address two important nuances in risk sentiment that will help you navigate risk flows better in a day to day basis.
Firstly, we have sentiment, and even though risk sentiment is obviously a form of sentiment, and even though it has certain usual outcomes that one would expect, there might be other drivers at play at any given time that we need to keep in mind.
For example, even though a risk on sentiment would usually see your high-beta currencies appreciate across the board, there might be other catalysts or sentiment shifts at play which might mean one of them are stronger than the others at that time, so basically getting an additional lift, or it might mean that even though they are supposed to be strong, they might be trading weaker due to those catalysts.
The second nuance to keep in mind about risk sentiment is that it’s just a guide, even though one would usually expect certain risk sentiment outcomes, it might not always play out that way. Sometimes the market just doesn’t move in line with the common correlations, and often times when that happens it might mean there is opportunity to buy or sell something at much better value, but other times it might just be the market being the market.
So, in today’s session we have a great example of that, even though we’ve had a supported risk tone throughout the session, one would usually expect the AUD, CAD and NZD to be supported due to a risk on mood. Now, in today’s session the NZD is one of the strongest, but it’s not only supported by risk flows, but more by the earlier comments out today that New Zealand will be moving to a lesser restrictive lockdown level next week, or majority of the country at least, and that has given the NZD an additional shot in the arm and has outperformed the NZD.
But, the other two, even though the NZD has an additional reason to be stronger, we would still expect the AUD and CAD to be supported based on risk on sentiment, but in today’s session that is just not the case. Now, one can argue that the CAD is pressured by the moves in oil prices, but I would have to argue that the correlation between CAD and WTI has not been as strong recently as one would usually see, but at least that explains some of the CAD downside.
Turning to the AUD, one would expect that to move higher today on the moves in equities, but that has just not been the case today, it’s been struggling all day and is leading the pack to the downside right now, and as far as I can tell there isn’t really any meaningful reason for that.
Now, we do have some upcoming employment data due for the AUD later this week where markets are expecting a lower print in jobs and a higher print in unemployment, and I expect that could be weighing on the Aussie, but apart from that I’m not seeing any solid reasons for not moving higher with the risk flows.
So, today is a good example of both these nuances in risk sentiment, which firstly is that there might be other sentiment factors at play which gives some risk sensitive instruments more reason to strengthen or weaken regardless of risk flows, and secondly that sometimes the market just doesn’t respect the correlations, for whatever reasons that might be.
So, I hope that helps with the question, any other questions please don’t hesitate to let us know.