Parabolic Moves In The Ruble And Turkish Lira May Foreshadow The Same For The Australian Dollar

Includes: FXA, TUR, UUP
by: Duru

The Russian ruble and the Turkish lira have recently experienced parabolic weakness against the U.S. dollar despite much higher interest rates.

Self-reinforcing currency moves can be contagious and make over-valued risk currencies like the Australian dollar particularly vulnerable.

The volatility in currency markets will likely tone down the Federal Reserve but the key to watch is whether the U.S. dollar maintains its own independent momentum higher.

Currency markets have been rocked with increasingly extreme moves in risk-bearing currencies like the Russian ruble (USD/RUB). Last week, the Russian central bank hiked interest rates from 9.5% to 10.5%. This move proved insufficient to protect the currency and control inflation, forcing the Russian central bank to send rates surging to 17%. Despite this rate hike, the ruble STILL lost about 25% against the U.S. dollar before finally reversing from the extremes of what is an extremely parabolic move.

The U.S. dollar goes parabolic against the Russian ruble.

The desperate move to preserve the currency's value is quite reminiscent of how 2014 started with a currency crisis reaching its climax in Turkey. In January, the Turkish central bank made a dramatic increase in interest rates to protect the Turkish Lira. The rate hikes included an increase for the one-week repo rate, or the policy rate, from 4.5% to 10%. Also, the Marginal Funding Rate soared from 7.75% to 12%. The borrowing rate spiked higher from 3.5% to 8%. These rate hikes were enough to drive the Turkish lira higher against the U.S. dollar over the next 4 months (USD/TRY went lower). Almost all those gains were erased by October. A parabolic move that started on December 1st and accelerated in recent days has punished the Turkish lira. Now the USD/TRY exchange rate is higher than the crisis levels back in January. The Turkish lira is now back to what looks like record lows against the U.S. dollar.

The U.S. dollar has gone parabolic against the Turkish lira in recent days

It took almost a year but the TUrkish central bank's attempt to protect the currency has now been completely eroded

Interestingly, the fresh plunge in the Turkish lira has not accompanied the kind of collapse seen in Russian stock indices. For example, here is a chart of iShares MSCI Turkey (NYSEARCA:TUR).

Turkish stocks are holding up relatively well given the October lows are still holding

These extreme and parabolic moves in risk currencies bring the Australian dollar immediately to mind. The Reserve Bank of Australia (NYSE:RBA) has repeatedly warned traders that the Australian dollar could essentially plunge at just about any time without warning given the currency remains very over-valued. With selling in the S&P 500 (NYSEARCA:SPY) finally reaching a climactic end in mid-October, we were even treated to a stern financial warning to financial markets about volatility. It seems to me that parabolic moves in risky currencies can beget accelerations of weakness elsewhere to the extent the same traders are involved in or linked to these currencies through various financial instruments. The RBA said as much in October when it warned about hidden risks in various financial debt markets. The Australian dollar has experienced a near continuous sell-off against the U.S. dollar since early September with just a brief respite, ironically enough, through most of October.

The sell-off in the Australian dollar continues at a steady pace - no parabolic moves yet

Two weeks ago, I wrote that increasing expectations for a rate cut in Australia were helping to drive the currency lower. Just as high interest rates are not protecting the Turkish lira or the Russian ruble, it turns out the weakness in the Australian dollar (NYSE:FXA) is continuing independent of rate expectations. Over the past week, expectations for a rate cut in Australia have taken a sharp turn downward. Yet, the pacing of the slide in the Australian dollar has not changed.

Financial markets are sharply lowering expectations for a rate cut in Australia for February

Source: ASX RBA Rate Indicator - February 2015

This relative independence suggests to me that the weakness in the Australian dollar has taken on its own self-reinforcing momentum. If so, the currency must be just one catalyst away from its own parabolic move lower. It is not likely useful to try to predict the exact trigger for a parabolic acceleration in weakness for the Australian dollar. It likely IS sufficient to understand that such a risk has increased and will remain elevated as long as other risk currencies are experiencing extremes in trading.

The next catalyst to watch is the Federal Reserve which meets on Wednesday, December 17 in the face of these risks and a roiling currency market. I strongly expect the Fed to soft-pedal its language on rate hikes for 2015 out of concern for worsening matters. If so, it will be important to watch whether the U.S. dollar's (NYSEARCA:UUP) rise takes a pause in response…or continues to power higher on its own momentum…and in turn taking risk currencies down another few notches.

The U.S. dollar takes a pause ahead of December's Federal Reserve meeting

Source for currency and stock charts:

Be careful out there!

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: In forex, I am net short the Australian dollar