Looking at the latest COT report, there are new extremes in short Australian dollars and long euro positions. Long crude oil net positions continue to look fairly crowded. The US dollar remains out of favor, but positioning is not yet at a bearish extreme. This is shown below:
CFTC COT speculator positions (futures & options combined) – January 2, 2018
Notable extremes are bolded, and are highlighted when speculator positioning is more than two standard deviations above trailing 1-year and 3-year averages.
The biggest changes in net positions (as a proportion of open interest) this week includes rising euro and gold positions, and falling Swiss franc and Australian dollar positions. Thanks to strong growth in the Eurozone, investors are increasing their euro holdings while increasing their short bets against the Swiss franc. Thanks to the ongoing global bull market, investors continue to add to ‘risk-on’ positions. Following gold’s recent run-up to $1,300, traders are adding to their long gold positions. Finally, Australian dollars remain out of favor despite the currency’s strength since mid-December.
Typically, speculators chase momentum and extremes foreshadow reversals
Looking at net speculator positions in the Australian dollar in recent history, positioning tends to become one-sided before big reversals. This is shown below:
Net speculator positions tend to lag big moves
In the second quarter of 2017, z-scores in the Australian dollar (+1.7x) were just under two standard deviations above 1-year trailing averages. During this time, AUD/USD was at a short-term peak and mostly traded between 0.75 and 0.77. By early June, AUD/USD had weakened down to 0.74. Net speculator positions soon followed.
The second time Australian dollar positions looked extreme was between August and early October. During this time, z-scores mostly hovered around two standard deviations above 1-year trailing averages (above our threshold). Looking at exchange rates, AUD/USD mostly traded between 0.78 and 0.80 during this time. By mid-December, the pair had weakened to around 0.75. In both cases, speculators chased momentum until positioning became too crowded. A reversal soon followed.
Speculators have yet to catch up with AUD’s move up
The sharp fall in Australian dollars since mid-December is interesting, as speculators are betting in the opposite direction of the trend. It is more common for speculators to chase trends and get caught on the wrong side of the fence after the trend has been exhausted (this is what happened at bullish extremes earlier this year) The sharp drop in net speculator positions in mid-December coincided almost perfectly with a significant rally in the Australian dollar. Net positioning also fell from net long to net short. So far, speculators are doubling down on their short AUD positions, suggesting that many believe this is only counter trend move. Whether or not the Australian dollar enters a long-term bearish trend remains to be seen. If the consensus is wrong, expect AUD to soar as speculators cover their short positions.