Risky Currencies Can Thrive Even If Oil Spikes

-- An oil price spike ought to be a perfect 'risk off' trigger
-- And perhaps it would be
-- However, history suggests that commodity currencies can do well at such times


LONDON (Dow Jones)--Those who watched or traded the volatile, highly-correlated financial markets of 2011 will have a good idea how risk appetite works.

When investors are risk averse, up go the havens: Treasurys, bunds and gilts, gold, the dollar and the yen.

On the other side stand the euro, stocks, commodities and the currencies of their producers. These are all poised for a bid when investors feel more confident about the economic future, as they have for much of this year.

Now, as oil prices rise, analysts are mulling the chances of a supply-side oil shock and all the horrors it would bring with it. Despite their best efforts we can't know whether or not we'll get one but, surely, if we do, the consequences will be obvious, right?

Risk appetite will be floored, and quickly, as it so often was in 2011, usually by bad news from the euro zone. All those haven assets will be in desperate demand.

Well, probably, but not certainly, at least in the world of foreign exchange.

Analysts at HSBC have been taking a look at oil shocks past, along with more sedate rises, and they find that, historically, there is very little evidence for the underperformance of what are now called 'risk currencies' during periods of oil price gains.

"Traditional logic suggests that large spikes in the oil price produce a 'risk off' impact, which weighs on equities, and therefore the highly 'risk on' Australian dollar and New Zealand dollar should fall," they wrote.

"In fact, the opposite has proven true. The picture is one of solid, sizeable and rising gains in an environment of higher oil prices." In other words, a shock to equities driven by crude does not automatically translate into a traditional 'risk off' currency trade.

Now HSBC offers no explanation as to why any of this might be; it merely documents market behavior when oil is rising.

But one theory might be that, as oil is the most important part of the whole commodity complex, its rise drags up everything else, which benefits commodity currencies, outweighing any worries about global growth.

However, HSBC also notes that the Canadian dollar does less well than its Australian and New Zealand counterparts when oil is going up, and much less well than the champion, the Norwegian krone. Perhaps the loonie's lack of punch is down to Canada's exposure to the U.S. economy, and the baleful effect an oil price shock usually has on it.

At this stage there isn't enough data to make the call, and, in any case, it may be that the dominance of the risk trade is stronger now than it was historically, in which case the commodity currencies might well fare worse in a future oil shock than they have in the past. HSBC's look at oil price rises goes all the way back to the less volatile, less correlated days of 1990 after all.

Nonetheless, history seems to suggest that certain risk assets can thrive, even if oil gives the financial world a jolt.