The prices of commodities have been, and always will be, a hot topic.
Commodity investments help investors diversify their personal
portfolio risk and capture additional profit through other markets.
But there's a catch. Access to these opportunities is not easy for
small individual investors. The problem? Each commodity contract
usually has its own investment requirements, such as initial margin
requirements. Furthermore, in most cases, trading futures contracts
involves more risks than investing in either stocks or bonds.
*TUTORIAL:* The Ultimate Forex Guide
And that's not all. There are additional maintenance margin
requirements that have to be upheld, along with an understanding of
the end-of-day profit and loss calculations. Although usually simple,
these calculations can sometimes understate or overstate a market
position, creating confusion for traders. So, with the large capital
requirement and other complexities of commodities trading, how can an
investor capture profitable opportunities in commodities? The answer
is simple – invest through the foreign exchange market. Like other
financial markets, the currency or forex market shares directional
relationships or correlations with other investment assets. Sometimes
the relationships are directly correlated (they move together), other
times they are inversely correlated (when one asset rises, the other
falls). These relationships can help a retail investor gain access to
other markets or help in analyzing global market trends. Now, let's
look at three commodities that share trends with major currencies in
the FX market and what makes them special.
*Gold and South Africa* Gold has always been a safe haven asset. It
helps in times of consumer price inflation and is seen as a physical
commodity that stores wealth. The yellow metal also gains popularity
in times of market turmoil and confusion. When the market turns lower
and fear is rampant in the market, traders and investors seek out gold
for its sustained value. A majority of the world's gold originates
from the South African continent. As a country, South Africa ranks
among the top-five gold producers with the likes of China, Australia,
the U.S. and Russia. So, it's no surprise that the South African
rand maintains a relatively tight, positively-correlated relationship
with gold. This is especially true when price momentum builds and a
price trend is strong in gold.
From April of 2009 to June of 2010, the relationship remained strong,
as gold prices soared to record levels and the South African rand
appreciated against the U.S. dollar. Rising from about $863 an ounce,
gold future prices traded to as high as $1,233.25 at the beginning of
summer 2010 – an almost 43% surge. The move prompted a rally in the
rand, with the currency breaking technical support at 9.83 per U.S.
dollar. The South African rand appreciated by 24% during the same
period. Now, although the gains aren't exactly the same, the
takeaway here is that a trend in one asset will define the direction
in the other asset. So, if there is a bullish trend in gold, you can
bet that gains in the South African rand aren't too far behind. The
relationship between gold and the U.S. dollar is typically a negative
correlation.
*Silver and Mexico* Like South Africa, Mexico remains a top global
metal producer, but its precious metal of choice is silver. In 2009,
Mexico was the second-largest silver-producing country. For that year,
Mexican silver mines produced almost 105 million ounces of silver –
or approximately 15% of the global silver market. This makes the
Mexican peso a necessity when dealing with Mexican silver miners, and
creates a great market opportunity for retail traders in foreign
exchange or any other investment asset class. (The quest for this
shiny commodity has made millionaires of paupers, and vice versa.
Check out _Using Technical Analysis In The Gold Markets_.)
Taking a similar look at both silver and Mexican peso charts, it is
clear that there is a very strong relationship. At the start of the
second quarter 2009, silver prices were trading just below $12 per
troy ounce. This corresponded with a U.S. dollar/Mexican peso exchange
rate of just below 14 pesos per U.S. dollar. With momentum of a
commodities market recovery building, silver future prices skyrocketed
higher throughout the rest of 2009 (ultimately peaking at $19.45 per
troy ounce in December).
During the same period, the Mexican peso gained by an impressive
10.4%. The peso's rise at that time is impressive because other
major currencies appreciated by about half that amount against the
greenback. A retail investor looking to diversify into silver's bull
market could have vicariously captured this opportunity through the
Mexican peso.
*Copper Prices and Chile* Copper is unlike silver or gold. Instead of
being a precious metal, copper and its corresponding ore is mainly
used in the production of electrical and manufacturing products. With
global industries still depend on copper as a base metal, there's
always going to be a consistent demand. In many manufacturing
companies, copper is still used as a main conductor for certain
commercial and retail products. This need for copper comes as a huge
boon to Chile's economy.
Chile is a major global producer, which pumped out almost 5.5 billion
metric tons of copper in 2009 – far surpassing U.S. production at
just 1.2 billion metric tons. The sheer size and global output of
Chile 's mines has helped the country to capture
approximately one-third of the overall copper market. As a result,
anyone who needs copper might ultimately need to make the purchase
with Chilean pesos.
This correlation creates a strong positive relationship between the
Chilean peso and copper. Between the months of February 2010 and
October 2010, the price of copper futures rose by 32% to approximately
$3.80 per pound. In the same period, FX investors saw the Chilean peso
return 11% over the U.S. dollar.
*How to Position Yourself for an Extraordinary Return*Now that we've
covered the major relationships in the market, it's time for the
application. Let's take a look at how to take advantage of these
correlations in order to reap a return.
Evaluating the daily chart below, we can see a technical buying
opportunity for copper in July 2010. The commodity price is testing
support at $3 per pound and is signaling a reversal as the 20-day
moving average (green line) is beginning to rise above the 50-day
moving average (purple line). Upward copper prices usually mean an
appreciating Chilean peso.
*The Bottom Line*For those individual or retail investors looking to
gain exposure into hot commodity trends, the foreign exchange markets
provide the answer. Intermarket relationships are a great way to
obtain a lower trading cost basis and increase ease of accessibility
when it comes to capitalizing on market opportunities. It's just
another way to use forex markets to diversify a global investment
portfolio.
*by Richard Lee*
Richard Lee is currently a contributing editor of the Daily Reckoning.
Employing both fundamental and technical models, Lee has previously
been featured on DailyFX.com, Bloomberg, FX Street.com, Yahoo Finance
and Trading Markets.com. In analyzing the markets, he draws from an
extensive experience trading fixed income and spot currency markets in
addition to previous stints in options, futures and equities.
Source: Investopedia.Com
