In the coming weeks, the attention in the global forex market is set to remain focused on central bank intervention, the latest developments in the Covid-19 pandemic and trade relations. The significance of all these factors raise a question about which forex pairs to trade this summer to capitalise on the opportunities presented.
This article considers four of the most profitable currency pairs to trade and key drivers behind their fluctuations.
Best forex pairs to trade this summer: the extent of Covid-19 recoveries come into play
Concerns about the possible emergence of a second wave of coronavirus cases have started to reverse recent signs of weakness in the US dollar in a risk-on equities environment. The pandemic will continue to loom large over the markets in the short term, as countries emerge from government-ordered lockdowns, and help determine which forex pairs to trade.
USD/CAD: crude oil play from largest US supplier
The USD/CAD forex pair represents how many Canadian dollars – the quote currency – are needed to buy one US dollar – the base currency. One of the top currency pairs to trade, the USD/CAD rate is highly liquid. The US dollar is the world’s global reserve currency, while the Canadian dollar is driven by exports of crude oil as Canada is the largest supplier of oil to the US.
The Canadian dollar – also known as the loonie – has been rallying against the US dollar in recent weeks. The loonie became oversold during March and April, with the USD/CAD rate climbing to a four-year high above 1.45, when the Covid-19 pandemic drove a flight to the safe haven of the US dollar and tumbling oil prices hit the Canadian dollar.
The risk-on momentum behind the markets has since lifted the Canadian dollar to the 1.35 range, and there is further potential support from rebounding crude oil prices. There is firm technical resistance at 1.36, according to Citibank (C), although renewed strength in the US dollar could send the rate back to 1.39 by September, CIBC (CM) forecasts.
EUR/GBP: Brexit trade talks are key to the sterling performance
The EUR/GBP pair – how many British pounds sterling one euro can buy – is one of the best forex currency pairs to trade as it is set to provide plenty of volatility this summer. Political turmoil between the UK and European Union and economic uncertainty within the bloc continue to drive the market.
The Euro soared against sterling in March, with the UK becoming one of the countries reporting the highest numbers of Covid-19 cases. The exchange rate approached 0.92 in March, its highest level since August 2019, up sharply from the 0.83 range in February. The rate moved back to 0.87 in April but has since returned to the 0.90 level.
Trade Euro / British Pound CFD
Citibank expects the pound to underperform the currencies of other G10 developed nations as it faces a delayed recovery relative to its peers. The Bank of England expects second-quarter GDP to contract by 20 per cent and it has not ruled out the possibility of setting negative interest rates, which is expected to further weigh on the pound.
Brexit trade talks between the UK and EU are ongoing and are set to drive continued volatility in the forex pair, particularly in the event of a hard exit from the EU single market and customs union at the end of the year.
NOK/SEK: undervalued Norwegian currency offers upside
For an alternative cross-currency pair – that is, an exchange rate that omits the US dollar – consider trading the Norwegian krone (NOK) against the Swedish krona (SEK). The Norwegian currency is among the most undervalued of the G10, and there is potential for upside in the NOK/SEK rate in a risk-on environment, particularly given an amended economic outlook for Norway.
The Norwegian central bank now expects its annual GDP to decline by 3.5 per cent in 2020, compared to a forecast 5.2 decline at its May meeting. The outlook for oil investment is so far more resilient than expected, and rising oil prices are set to support the currency given the importance of the Norwegian oil industry.
Unlike other central banks, including in Sweden, the Norwegian central bank has not been engaging in quantitative easing but instead has been buying the krone and liquidating oil fund assets. That makes the currency relatively attractive against other currencies including the Swedish krona.
The NOK/SEK rate dropped from 1.07 at the start of the year to 0.89 in March and has since bounced up to the 0.98 range. ING Bank and TD Securities forecast that pair will rise further to parity – a rate of 1.00 – in the near term.
AUD/JPY: yen safe haven contrasts Aussie exposure to China
The Japanese yen (JPY) is another undervalued currency, which also attracts attention as a safe-haven asset. A cautious risk backdrop is a key driver for the yen, and analysts at TD Securities note that “staying long JPY remains a core part of our strategic view.” Sucden Financial notes that concerns about Covid-19 developments in the US have started to affect risk appetite, underpinning the yen.
Japanese central bank policy is likely to keep the yen soft against the US dollar, and increased capital outflows from Japan into US high-yield assets are likely to result in more demand to exchange yen into dollars. The Japanese government has upgraded its assessment of the economy for the first time since January 2018 and Tokyo has lifted its lockdown restrictions on businesses, Sucden notes.
But the AUD/JPY rate is set to fall. It dropped below 64 in March, down from 76 at the end of last year, before spiking back up at the start of June then retreating again.
The Australian dollar is closely linked to the Chinese yuan, which is weakening under pressure from rising tensions with the US over trade tariffs. Analysts note that the Australian dollar looks vulnerable to a pullback and trader positioning is net short. There are broad risks based on Covid-19 and the upcoming US election “with particular worry placed on the evolution of US/China relations,” Citibank analysts note. “We think AUD has some of the most room to correct in the coming month,” the TD analysts said.
Forex market outlook: equities and trade wars to drive exchange rates
Overall, recovering oil and metals prices have been lifting the commodity-related currencies. “The typical high-beta currencies like AUD/NZD/CAD have led the G10 complex in performance against the USD amid high and stable correlations to equities,” TD analysts said.
Looking forward, European and Asian currencies are set to remain under pressure. “A delayed response should reinforce a weaker GBP while the massive macro stimulus insulates the USD. Asian FX looks exposed to trade wars, while EUR still needs to price in the weak growth outlook,” the analysts said.