With market sentiment improving, equities and other risk assets are rallying sharply. While we are not sure that we are out of the woods yet, we thought it would be helpful to identify which currencies are likely to outperform on the other side of the crisis. The timing is of course anyone’s guess at this point, but we are confident that our currency picks below will eventually pay off.
The Norwegian krone has been the worst performing currency in the majors this year at -14% vs. the dollar. Most of this underperformance has been due to the plunge in oil prices. While it will take some time for the oversupply to work itself out, rumbling of an OPEC+ deal suggests oil prices may be putting in a near-term bottom. Both USD/NOK and EUR/NOK have retraced nearly two-thirds of their 2020 gains. Eventually, we target a return to the January lows near 8.7550 and 9.8160, respectively.
Likewise, the Canadian dollar has been hit hard by the oil price plunge and is -7% YTD. USD/CAD has retraced over a third of its rally this year and is breaking below the 1.40 area. Our initial targets are the major retracement objectives from the 2020 rise for this pair that come in near 1.3810 (50%) and 1.3610 (68%). If oil prices rally and markets normalize, USD/CAD could eventually test the December 31 low near 1.2950.
The Australian dollar has been the second-worst performer in the majors this year at -12% YTD. Much of this underperformance has been driven by the sharp slowdown in mainland China, which is Australia’s top export market. AUD has retraced nearly half of its drop this year and is breaking above the 0.6200 area. Our initial targets are the next major retracement objectives from the 2020 drop near 0.6270 (50%) and 0.6450 (68%). If iron ore prices rally, AUD could eventually test the December 31 high near 0.7030.
Amongst the major EM currencies, we think BRL is in the best position to outperform in the initial stage of the rebound – should it continue. The currency has been one of the hardest, and the same goes for local market assets (the Bovespa is -30% YTD) Brazil has mixed fundamentals, but far more robust than the weaker links such as Turkey and South Africa. Moreover, the country it is relatively well insulated from disruptions in the global supply chain. Our first target is the key R$5.00 psychological level, then the 50% retracement from this year’s move at around R$4.66.
The Mexican peso should perform well in the near term, but we are not as convinced it will be sustainable. For now, the peso will benefit from its huge liquidity and its high-beta status. When tides go up, MXN often goes ahead. That said, we think President Obrador is underdelivering on the reaction to the virus and the general outlook for the country has worsened materially. Our first target would be taking out the March dip in USD/MXN just below the MXN23.0 level.
In the medium term, we believe the Russian ruble will perform well. Oil is likely to remain at depressed levels for some time, but on the other side of the virus shock, we expect an eventual rally in energy prices because of the capacity destruction that will occur in the sector (especially in the US shale and Canada). On top of this, the Russian government has been very prudent over the last several years and has plenty of capacity to respond to the virus shock. We initially target the RUB70 level against the dollar but recognize it may take some time and may be dependent on the OPEC+ deal being negotiated now.