Chart of the Day – The Risk-On Metric of Classical Times: Emerging Market Currencies

by Enis May 15, 2012 7:12 am • Commentary

My first job on a trading desk was as an intern in the currency trading group (foreign exchange in industry parlance).  Before the terminology of “risk-on” or “risk-off” was common knowledge, the currency traders taught me to watch the price action of the more speculative, higher yielding emerging market currencies to gauge risky sentiment in global markets.  Today’s chart is a throwback to that original lesson.  It shows the 2-year performance of the SPY versus the performance of the CEW ETF, which is an ETF that is designed to replicate ownership in the following emerging market currencies, according to the WisdomTree ETF website:

Constituent currencies: Mexican Peso, Brazilian Real, Chilean Peso, South African Rand, Polish Zloty, Russian Ruble, Turkish New Lira, Chinese Yuan, South Korean Won, Indonesian Rupiah, Indian Rupee, and Malaysian Ringgit.

The outperformance of the SPY since the Oct 2011 low is substantial, but I chose this chart for today because of the resumption of QE3 speculation throughout markets and the media.  Emerging market currencies offer a great indication of global risk appetite since they have high yields, are higher growth economies, and are of course riskier investments.  My impression is that global investors are much less interested in the possibility of QE3 (whether it occurs or not).  They have been favoring the U.S. dollar since the middle of 2011, and show no signs of shifting their ways.  Watch closely for any signs that emerging market currencies are regaining strength, as these prices offer much more information than the dozens of pundits with no money on the line.