By Brian Perry

The commodity currencies are currencies from countries that possess large quantities of commodities or other natural resources. Natural resources often constitute the majority of the countries' exports, and the strength of the economy can be highly dependent on the prices of these natural resources. Countries that are rich in natural resources include Russia, Saudi Arabia, Nigeria and Venezuela. However, the currencies of many natural-resource-rich countries are either regulated by the government or otherwise rarely traded in international markets. Therefore, commodity currency trading typically focuses on three countries that are rich in natural resources and also have liquid, freely floating currencies: Canada, Australia and New Zealand. (For background reading, see Commodity Prices And Currency Movements.)

The Canadian Economy
Canada features a dynamic, modern economy. Based on gross domestic product (GDP) per capita, Canada boasts the seventh-highest standard of living in the world. The country is blessed with large quantities of commodities including natural gas, timber and oil. This makes Canada's economy very sensitive to commodities prices. Canada also benefits from its geographic location just to the north of the United States, the world's largest economy. Because of this proximity, the vast majority of Canada's exports go directly to the United States. Therefore, the Canadian economy is also closely linked to the state of the U.S. economy, because weaker growth in the U.S. can result in decreased exports for Canada. (To learn about another Canadian investment, see An Introduction To Canadian Income Trusts.)

The Australian Economy
Australia is one of the world's most natural-resource-rich countries and has large holdings of gold, iron, coal and aluminum. Australia also has very large farms that produce goods such as wheat, beef and wool. In addition to natural resources and farm products, Australia also boasts a modern industrialized economy and a large service sector. Despite these economic advantages, Australia suffers somewhat because it is geographically isolated and has a relatively small population. In light of this, Australia finds it necessary to import large quantities of goods not produced domestically. These imports can result in large trade deficits that pressure the Australian dollar. (For related reading, see A Forex Trader's View Of The Aussie/Gold Relationship.)

The New Zealand Economy
New Zealand is a small island nation blessed with many natural resources and a large agricultural sector. These resources result in the New Zealand economy's heavy exposure to international commodity prices. The country is also extremely open to international trade and foreign investment and is a popular destination for tourism. In 2005,the World Bank named New Zealand the most business-friendly country in the world.

Factors Influencing Commodity Currency Movements
The primary determinant of the movement of the commodity currencies is the price of commodities. As a general rule, when the price of commodities is high, the currencies of the commodity producers also strengthen. When commodity prices are weak, the currencies weaken. During times of strengthening commodity prices, the economies in commodity-producing nations usually grow rapidly, which can lead to high domestic interest rates. High interest rates can make these countries popular with the carry trade, in which investors sell low-yielding currencies and reinvest the proceeds in high-yielding currencies. These carry trades can drive the prices of commodity-producing currencies higher than they otherwise might have been. However, when financial conditions change, the carry trade can be reversed very quickly, which can result in capital flight from the destination country and a swift decline in the currency value.

Trading the Commodity Currencies
The currencies of Canada, Australia and New Zealand are all actively traded but are less liquid than those of the United Kingdom, Japan or the eurozone. Additionally, comparing the economies of commodity-producing nations to that of the United States can be difficult, because the comparison is not "apples to apples". In general, traders should focus on the trend in commodity prices to determine whether the currencies of Canada, Australia and New Zealand are likely to rise or fall in the near future. In the case of Australia and New Zealand, relative interest rates are also important because they are popular destinations for the carry trade. When interest rates in Australia or New Zealand are much higher than those in other countries such as Japan, investors might employ the carry trade by selling the yen and purchasing the Australian or New Zealand dollar. These trades help drive up the value of the Australian and New Zealand currencies. When interest-rate differentials reverse or market volatility prompts traders to scale back their positions, the Australian and New Zealand currencies can swiftly decline. Be aware that investing in commodities or commodity-producing companies may produce direct exposure to commodity prices. Although the commodity currencies typically move in tandem with commodity prices, the currencies are also influenced by additional, unrelated factors. These factors can prevent commodity currencies from being a "pure play" on commodity prices. Therefore, individuals interested in commodity exposure should carefully consider whether they want to trade the commodity currencies or would prefer to invest directly in the commodities themselves.


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