Why Commodities and Currencies Move Together
Financial markets do not operate in isolation. There are economic links between the price of crude oil, the value of gold, and the exchange rates of certain currencies that give rise to predictable cycles, which have long been used by the more sophisticated traders.
Commodity currency trading is the practice of using these relationships to inform forex trading decisions. When commodity prices fluctuate by a large amount, certain currencies tend to trend in a certain direction, depending on the economic bases of the countries in question.
Knowing these relationships will provide you with one more level of analysis beyond the technical. If a commodity’s economy is in a range-bound situation, while the currency pair in question shows itself range-bound on its chart, then the commodity is likely to move quite a bit before the currency pair does.
The oil price impact on forex and the relationship between gold and the Australian dollar are two of the most consistent and widely followed commodity-currency relationships in global financial markets. Learning to read these relationships can enhance your understanding of the market and your trade timing.
What Makes a Currency a Commodity Currency
Not every currency will react the same to commodity price fluctuations. Commodity currencies are created by countries that rely heavily on commodity exports to generate national income, trade balances, and fiscal stability.
These countries make more money through exports when commodity prices increase. International buyers are buying local currencies to pay for imports of commodities, which leads to trade surpluses, strengthening fiscal positions, and higher capital inflows. All such factors are positive for the currency’s value compared to countries that are not as dependent on commodities.
Conversely, if the price of commodities drops, the opposite takes place. The weakening of the economic prospects of a commodity-dependent economy leads to a reduction in export revenues, worsening of trade balances, and selling pressure on the currency. It is the mechanical relation that is the basis of commodity currency trading.
Canadian dollar, Australian dollar, New Zealand dollar, and Norwegian krone are among the most popular commodity currencies. They all rely on different main commodities and offer a variety of relationships that traders can follow at once on the global market links.
The Canadian Dollar and Oil: Trading the Loonie
Trading the Loonie (CAD), as the Canadian dollar is informally known, is one of the most accessible entry points into commodity currency trading. Canada is one of the world’s largest oil producers and exporters, making the oil price impact on forex particularly direct and consistent in the USD/CAD pair.
As crude oil prices go up, export revenues go up. The better trade balance leads to an increase in the demand for Canadian dollars, as people buy dollars to pay for Canadian oil. This demand has the effect of weakening the USD/CAD and thus strengthening the CAD against the USD.
The opposite applies when oil prices fall and trading the Loonie occurs. Since USD/CAD is a currency pair, any lessening in the export’s revenue could lead to an increase in the USD/CAD pair since the dollar would be weaker, and the USD would be stronger.
The forex effects from oil prices via the Canadian dollar are not immediate, but are fairly consistent in most prolonged oil price cycles to give a directional context to USD/CAD analysis. Monitoring crude oil alongside USD/CAD traders gets an extra piece of data for the traders that don’t get from a pure currency analysis.
The Canadian dollar’s most pertinent oil benchmark is Brent crude. Brent crude and West Texas Intermediate crude are the most relevant benchmarks for Canadian dollar analysis. When the trend continues, such as moving to a higher or lower set of benchmarks, it often reflects the relationship between the commodity and currency that is expected for the corresponding move in USD/CAD.
The Australian Dollar and Gold: AUD/USD Gold Trends
Australia has been consistently in the top 10 countries for gold production since 1981. This relationship forms a direct and historically accurate gold/AUD currency pair that is one of the most closely watched commodity currency pairs in the world.
A sharp increase in gold prices boosts the prospects of the country’s mining industry, which is largely dependent on gold. An improvement in export revenue, capital inflows into the Australian dollar-denominated assets, and an appreciation of the Australian dollar against key trading partners. The gold price of AUD/USD is always better performing during periods of extended gold bull markets.
If the gold price falls, the relationship gets reversed. Mining sector earnings decline, growth prospects become more muted, and the Australian dollar weakens, which can sometimes be seen in AUD/USD gold charts well in advance of other economic data.
The relationship is not 100% causal, and other influences, such as interest rate differentials, wider risk appetite, and Australia’s trade with China, also play a role at the same time. In conjunction with technical analysis, however, AUD/USD gold trends can give a consistent direction and reinforce the analytical picture.
Traders monitoring commodity currency trading opportunities in the Australian dollar should track spot gold prices and gold futures alongside AUD/USD charts. When the AUD/USD price chart and gold diverge in direction, it tends to work out in the opposite way to what appears to be, with the currency pair following the commodity instead of the commodity following the currency.
Oil’s Broader Impact on Global Currency Markets
The oil price impact on forex extends well beyond the Canadian dollar. Global market links between crude oil and multiple currency pairs create a web of relationships that commodity currency traders monitor simultaneously for cross-market confirmation.
When oil prices go up, the currencies of major oil-importing countries tend to depreciate as the price of oil also makes the country’s trade gap larger and its economy less competitive. It is particularly sensitive to an increase in oil prices because Japan imports almost all of its energy needs. In general, higher oil prices generate resistance in the price of JPY-denominated crosses because it increases the costs of imports, which affects Japan’s balance of trade.
The relationship between the US dollar and oil prices is complex and has been changing over the years. In the past, the dollar has weakened when oil prices have gone up, due to the pressure from the trade deficit. The relationship gradually became less regular as the United States started to produce and export oil. Today, the dollar’s sensitivity to oil is mediated by a more complicated global chain of market relationships and must be analyzed more subtly than it was previously.
Emerging market currencies that are heavily tied to oil prices, such as the Russian ruble and the Mexican peso, are sensitive to oil price changes. These worldwide market connections provide traders with the opportunity to follow commodity price activity in multiple currency pairs as opposed to just major pairs.
Gold as a Safe Haven and Its Currency Connections
In addition to the currency links with the currencies of the producing countries, currency links stem from gold’s safe-haven status. During periods of global risk, money moves into gold at the same time that it moves into other safe-haven currencies, such as the Japanese yen and the Swiss franc.
Hedging with commodities, specifically gold, is a strategy institutional traders use to balance portfolio risk. As a result, yen and Swiss franc cross frequently follow similar trends to the price of gold and are often strengthened by the same capital flows that are pulling into gold during times of large sell-offs in equity markets.
Retail level hedging is where one considers a gold price direction as confirmation on safe-haven currency trades. A substantial gold rally during risk-off markets reaffirms the thesis of currency buying better than it does through currency analysis.
The inverse relationship between gold and the US dollar adds another layer to the commodity currency trading strategy. Gold is priced in US dollars globally, causing the natural tendency for gold and USD to rise against each other. The weaker dollar makes gold more affordable for those who don’t use the dollar, which boosts demand and helps the price of gold. This is the opposite of a strengthening dollar.
When tracking the gold trend of the AUD/USD, traders can also apply the dollar index as an extra filter. AUD/USD tends to strengthen when the dollar is coming down, while gold prices move up when the dollar is weakening. All three movements support, strengthen, and establish more conviction trade setups than any of them can do individually.
Practical Ways to Apply Commodity-Currency Relationships
Commodity currency trading in practice requires monitoring commodity price charts alongside currency pair charts to identify meaningful divergences and confirmations that inform trading decisions.
The first step is to identify the leading currency in each pair you trade. USD/CAD is most sensitive to crude oil. Gold and, to a lesser extent, iron ore and copper are the key drivers of AUD/USD. When the primary commodity driver is known, you can concentrate the monitoring on the most pertinent data.
Identify commodity breakouts and currency position. If a resistance level is broken in the currency chart of crude oil, then there is even a fundamental reason for the USD/CAD short trade, in addition to the technical level. This is a combination of commodity trend and currency setup, which enhances the trading thesis.
The oil price impact on forex and AUD/USD gold trends works best as confirming evidence rather than standalone trading signals. It’s better than price confirmation alone if a trader has technical confirmation on the price chart and commodity confirmation from the appropriate commodity market.
Track the timing of commodity moves and the currency’s reaction for your commodity pairs. A commodity price change has a lag time before the currency price, and the typical lag time is known for each pair, so that can help with entry timing.
Hedging With Commodities in a Forex Portfolio
Hedging with commodities involves using commodity exposure to offset currency risk within a broader trading portfolio. It is a more applicable strategy for traders who are dealing with more than one trade at a time, as opposed to those who are just dealing with a single pair trade.
If the trader is long the AUD/USD, looking for a stronger Australian dollar, they may consider a long position on gold as a partial hedge to protect them from a stronger AUD. If the AUD/USD trade goes against the direction it was anticipated to take, the gold trade can help reduce losses in part if both are being driven by similar fundamentals. Global market links between the two create natural hedging opportunities that pure currency trading cannot provide.
Understanding correlation and not its constancy is the key to hedging. Historically, the AUD-gold correlation and CAD-oil correlation have been reliable, but not consistent in all market conditions. Hedging a commodity but not all of it results in more realistic expectations of risk management.
Final Thoughts
Commodity currency trading adds an important analytical dimension that pure technical or fundamental currency analysis cannot replicate. The oil price impact on forex, AUD/USD gold trends, opportunities provided by trading the Loonie, and global forex links between commodities and the forex market provide a vast spectrum of possibilities for making informed trading decisions.
Hedging with commodities and monitoring cross-market relationships between commodity prices and currency pairs gives you information that positions you ahead of traders who watch only currency charts in isolation.
If you are looking for a trading environment that supports commodity currency analysis with access to both forex pairs and commodity instruments alongside reliable execution, BXB Market is worth exploring as your trading platform.
Frequently Asked Questions
- What is commodity currency trading and which currencies are most relevant?
Commodity currency trading, which aims to inform forex trading by using commodity price movements, is based on the economic relations between certain countries and their main commodity exports. The currencies most relevant are the Canadian dollar (which is linked to oil), the Australian dollar (which is linked to gold and iron ore), and the Norwegian krone (which is linked to the production of North Sea oil).
- How does the oil price impact on forex affect the Canadian dollar specifically?
When oil prices rise, Canadian export revenues grow, and foreign demand for Canadian dollars grows, which leads to a decline in USD/CAD, as the Canadian dollar becomes stronger. When oil prices drop, this export revenue decays, which makes the Canadian dollar weaker, and USD/CAD stronger, in other words.
- What are AUD/USD gold trends and why do they matter for traders?
AUD/USD gold trends are based on the relationship between the price of gold and the Australian economy, one of the world’s chief producers. An asset price that rises in value typically leads to strengthening of AUD/USD, as export earnings and capital inflows to Australia tend to rise, so when gold prices rise, it is generally a positive confirmation indicator for the Australian dollar trading.
- How does hedging with commodities work in a forex trading context?
Hedging with commodities refers to any transaction performed with commodities to help mitigate the risk of a related position in currency transactions using historical correlation. A trader with an AUD/USD long position may also open a gold long position to hedge their trade, as both tend to trade in the same direction under similar market conditions.
- How reliable are global market links between commodities and currencies?
Global market relationships between commodities and currencies are stable enough to offer an analytical background, but not entirely accurate in all markets. These relationships are best used as support in conjunction with technical analysis, and not as independent direction indicators for trading entries.
