Our outlook for the euro remains constructive over the medium term. European economic activity continues to improve and should eventually allow the European Central Bank to pivot on quantitative easing (QE) and embark on tapering. We expect the euro to appreciate in this environment and this may unfold in Q2/Q3 this year. In general, we believe QE has approached its conclusion and policy adjustments going forward are likely to be skewed toward supporting longer-term euro strength.
We expect the Chinese currency (onshore and offshore) to trade on the stronger side of the 6.80-6.99 range in the month ahead. Softening in the US dollar is expected to continue to support the renminbi. Capital outflows have stabilized, and we expect foreign exchange reserves to ratchet higher in the coming months. In particular, tighter controls over corporate overseas investment and measures recently announced to encourage capital inflows should boost reserves.
We continue to expect mixed US dollar performance in the near-to-medium term. Emerging market currencies should be supported versus the dollar if our positive global growth view plays out. Investors are likely to seek higher yields in countries with robust growth. However, the picture is less clear for developed market currencies, as the US Federal Reserve remains benign and the non-US global growth picture brightens.
Japanese economic data have surprised to the upside of late. However, positive moves in the yen can be attributed to non-domestic drivers (for example, disappointment with implementation of Trump policies, increased geopolitical concerns, etc.) and these drivers’ potential impact on global growth. We see no obvious catalyst for a reversal in the recent trend, particularly given President Trump’s attention to outright currency levels. However, we do not rule out a short-term correction.
British pound sterling:
Brexit discussions are unlikely to make significant progress until the 2017 eurozone elections have reached a conclusion (autumn). UK Prime Minister Theresa May is likely to have an increased majority in the UK Parliament by that time, paving the way for her to take a far more diplomatic approach to the talks than previously envisaged. Given current valuations and positioning, we believe sterling would appreciate quite meaningfully under such a scenario (our base case).
Canadian dollar strength has faded recently despite stronger economic data. Weakness in oil prices has been responsible for some of the reversal. The Bank of Canada has, at least temporarily, dropped its dovish tilt, but it appears content to leave the overnight rate target at 0.50% for the foreseeable future.1 The Canadian dollar continues to remain overvalued in our view.
The recent March employment report was stronger than expected, but the unemployment rate remained unchanged and stubbornly high. This result, plus the Reserve Bank of Australia’s apparent satisfaction with the current trading range of the Australian dollar, suggest that it will likely maintain its current cash target rate at 1.50% for an extended period of time.2 We remain neutral on the Australian dollar.
The PowerShares DB US Dollar Index Bullish (NYSE:UUP) was unchanged in premarket trading Thursday. Year-to-date, UUP has declined -2.76%, versus a 7.31% rise in the benchmark S&P 500 index during the same period.
Ray Uy, Head of Macro Research and Currency Portfolio Management; James Ong, Senior Macro Strategist; Brian Schneider, Head of North American Rates; Sean Connery, Portfolio Manager; Scott Case, Portfolio Manager; and Alex Schwiersch, Portfolio Manager
1 Bank of Canada, April 20, 2017
2 Reserve Bank of Australia, April 20, 2017
The risks of investing in securities of foreign issuers, including emerging market issuers, can include fluctuations in foreign currencies, political and economic instability, and foreign taxation issues.
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