Global financial markets have undergone a major transformation in the last couple of years and the biggest surprise of this transformation is a strong comeback of the US dollar. At the beginning of 2017, the dollar was trading weak and the analysts expected the weakness to continue through 2018. Twenty months later, the global financial markets appear much different. The most trending theme in financial markets in the recent months has been the strength of the dollar, and there are indications that its rise may continue – at least for a while. Reflecting the strength of the greenback, the US Dollar Index (see image below), which tracks the value of the US Dollar against a basket of major currencies, jumped 5% this year, before shedding some of its gains last fortnight.
Dollar Strengthens Against Global Currencies
After remaining weak through 2017, the US dollar has made a strong comeback this year – largely on the back of a strong US economy and the protectionist policies of the Trump Administration. The strength of the greenback has, unfortunately, taken a toll on other global currencies. The Chinese Yuan is trading 10% off its high of the year, while the Brazilian Real is down 18.4%, the Russian Ruble is down 14.75%, the Pakistan Rupee is down 9.7% and the Indian Rupee is down 8.9% year-to-date (YTD) against the dollar (See Table: Leading Global Currencies Vis-a-Vis the US Dollar). The Turkish Lira and Argentinian Peso have been the biggest losers, both down close to 40% since the beginning of the year. Not only the Emerging Market (EM) currencies, the US dollar’s strength has also put pressure on the Developed Market currencies such as the Euro (down 3.45% YTD), Canadian Dollar (down 3.77% YTD), Pound Sterling (down 4.69% YTD) and the Australian Dollar (down 6.75% YTD).
Dramatic Meltdown of the Turkish Lira
The meltdown of the Turkish Lira against the US dollar has been much sharper than other currencies. While Lira had been one of the worst-performing currency in the world this year following Turkey’s deteriorating economic fundamentals (High external debt of US$ 467 billion, which is more than 50% of its GDP, and high inflation of 15.9%). Once NATO allies, Turkey is currently at odds with the US over their conflicting interests in Syria, the US’ objections to Turkey’s plan to purchase Russian defence systems and an American pastor held by Turkey for two years on terror charges. Amid the ongoing confrontation, the Lira crashed by another 20% on 10 August after the Donald Trump administration doubled the tariffs on Steel and Aluminium from Turkey. Following the ensuing sell-off, the Lira touched a historic low of 6.95 against the US dollar on 13 August 2018 – halving from about 3.52 at the beginning of 2017. Lira’s continued depreciation against the US dollar makes it more expensive for it to service its dollar-denominated debt. This stoked fears that its troubles could spread to the other countries due to the exposure of global financial institutions to Turkey’s banking system.
What’s in store for other markets?
Will the US dollar continue to strengthen further? And what does this mean for other markets?
While some market watchers believe that the strong dollar may affect the Emerging Markets, especially those which maintain high dollar-denominated debts (see table: Leading Global Currencies Vis-a-Vis the US Dollar), another section of experts suggests that Turkey’s troubles are specific to the country and should not cause contagion effect in the region or the other Emerging Markets. In a recent note, the global rating agency Moody’s Investor Service opined that a correction in Turkish Lira highlights the external vulnerability and sensitivity to a rise in the cost of debt of some emerging and developing countries. (See table: Vulnerability to Costly Debts)
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Countries with high current account deficits, high external debt repayments and very high foreign-currency government debt are most exposed to the impact of a stronger US dollar.
The strength of the dollar could be detrimental to economies with large trade deficits or massive foreign debts. The increase in the value of the dollar means an equivalent increase in the cost of servicing the dollar debt in the local currency, and this may undermine the global economic system, potentially causing defaults or even bankruptcies, causing serious damage to global economic growth. But in a connected world, which country can risk a slowdown? The answer is simply no one!
Slowdown in EMs Not Good for Developed Economies
The American CEOs, manufacturers and business groups fear that American growth may slow if the economies of its trading partners get jeopardized. Stock prices of British firms exposed to Turkey have already been affected. There are fears that some of the European Union banks could report significant losses on loans to Turkish businesses. Germany’s Chancellor Angela Merkel also expressed concerns that Turkey’s troubles could spread to the European Union, either by way of losses to some of the banks – especially Spanish and Italian – exposed to the bad loans from Turkey or from a possible rise in migration.
An eventual correction in the US dollar may provide some relief to the currencies of Emerging Markets. The Economist Intelligence Unit (EIU), the research and analysis wing of The Economist Group, expects the US economy to begin losing momentum around early-to-mid of 2019 following its escalating trade dispute with China, which may prompt the Federal Reserve – the US central bank – to take a cautious stance to deal with the threat of higher inflation. This, according to the EIU, may cause the dollar to correct against other currencies in 2019, and weaken further in 2020 as the economy slows and the Fed embarks on a policy-easing cycle.
Stay Alert to the Signs of Deterioration of Currencies
The Lira’s free fall has halted for now. Yet the crisis may have medium-to-long-term ramifications on global currency markets. A section of the market also believes that the strength could just be a temporary dollar frenzy, which may fizzle out eventually as the dollar moves into the overbought territory, and economies will find ways to deal with the strong US dollar. Unlike in the past, the Emerging Markets are not so vulnerable to a stronger dollar today. While the currencies of the developed economies such as Euro, Japanese Yen and the Swiss Franc are not so vulnerable, most EMs, even those without strong economic fundamentals, have an array of monetary tools to prevent them from meeting the fate of the Turkish Lira. Overall, the contagion risk is ruled out for now, as the Turkey crisis may be unique to its circumstances, although it is prudent to stay alert to the signs of deterioration in the currencies of the economies that are similar to Turkey.
Wall Street bounce, upbeat earnings lift European stocks
By Amal S and Sruthi Shankar
(Reuters) – European stocks rose on Wednesday after Dutch chip equipment maker ASML and Swiss luxury group Richemont gave encouraging earnings updates, while investors hoped for a large U.S. stimulus plan as Joe Biden was sworn in as president.
The pan-European STOXX 600 index closed 0.7% higher, getting an extra boost as Wall Street marked record highs.
All eyes were on Biden’s inauguration as the 46th U.S. President, with traders betting on a bigger pandemic relief plan and higher infrastructure spending under the new administration to boost the pandemic-stricken economy.
Tech stocks rallied to a two-decade peak in Europe after ASML Holding NV rose 3.0% to all-time highs on better-than-expected quarterly sales and a strong order intake for 2021.
Meanwhile, Richemont rose 2.8%, after posting a 5% increase in quarterly sales as Chinese splashed out on Cartier, its flagship jewellery brand.
Britain’s Burberry jumped 3.9% after it stuck to its full-year goals, saying higher full-price sales would boost annual margins, while Asian demand remained strong.
The pair boosted European luxury goods makers that are heavily reliant on China, with LVMH and Kering gaining between 1% and 3%.
“Any sign that retail spending is picking up in China is going to be a boost to the Western markets and those heavily exposed to it,” said Connor Campbell, financial analyst at SpreadEx.
The European Central Bank is set to meet on Thursday. While no policy changes are expected, the bank could face more questions about an increasingly challenging outlook only a month after it unleashed fresh stimulus to bolster the euro zone economy.
“With the new round of easing measures fully in place and no new forecasts to be presented tomorrow, it should be a fairly uneventful day for the euro,” ING analysts said in a note.
Italy’s FTSE MIB gained 0.9% and lenders rose 1.6% after Prime Minister Giuseppe Conte won a confidence vote in the upper house Senate and averted a government collapse.
Conte narrowly secured the vote on Tuesday, allowing him to remain in office after a junior partner quit his coalition last week in the midst of the COVID-19 pandemic.
Daimler AG jumped 4.2% after its Mercedes-Benz brand unveiled a new electric compact SUV, the EQA, as part of plans to take on rival Tesla Inc.
Germany’s Hugo Boss added 4.4% after Mike Ashley-led Frasers said it boosted its stake in the company.
(Reporting by Sruthi Shankar and Amal S in Bengaluru; Editing by Shailesh Kuber and Arun Koyyur and Kirsten Donovan)
Miners lead FTSE 100 higher on earnings cheer
By Shivani Kumaresan
(Reuters) – UK’s FTSE 100 rose on Wednesday as miners gained after a strong production forecast from BHP Group, while encouraging updates from luxury brand Burberry and education group Pearson drove optimism about the earnings season.
BHP Group Ltd climbed 2.8% after it forecast record iron ore production for fiscal 2021, helped by high prices for the commodity. Other miners Rio Tinto, Anglo American and Glencore rose more than 2%.
Global markets rallied in anticipation of more fiscal spending as Joe Biden prepared to take charge as the 46th U.S. president.
“There is a view in the markets that more spending is in the pipeline, after all, Mr Biden will want to start his presidency on a positive note,” said David Madden, market analyst at CMC Markets UK.
The FTSE 100 index rose 0.4% and the domestically focussed FTSE 250 index added 1.4%.
The FTSE 100 has recorded consistent monthly gains since November after the sealing of a Brexit trade deal and hopes of a vaccine-led economic recovery, but has recently lost steam as tighter business restrictions sparked fears of a slow rebound.
Burberry rose 3.9% as it stuck to its full-year goals and said higher full-price sales would boost annual margins and Asian demand remained strong.
Global education group Pearson jumped 8.6% after its global online sales grew 18% in 2020, helped by strong enrolments in virtual schools.
WH Smith Plc surged 10.4% to the top of the FTSE 250 index as its trading during Christmas was ahead of its expectations.
(Reporting by Shivani Kumaresan in Bengaluru; editing by Uttaresh.V, William Maclean)
What we can expect from currencies and markets in 2021
By Jeremy Thomson-Cook, Chief Economist at money management specialist Equals Money, part of the Equals Group.
2020 was a year that changed almost every aspect of our lives, and currency markets across the world reacted with volatility. Complacency, panic, and isolation have influenced activity over the last 12 months and most recently, a semblance of hope has been seen as vaccines offer the first glimpse of a ‘way out’.
While 2021 will hopefully see us on the road to recovery, we’re certain to be dealing with the longer-term economic effects of the pandemic for years to come, while also navigating a post-Brexit outlook. So, what can we expect from currencies and markets in 2021?
A focus on recovery
Once the impact of mass-vaccination starts to be seen across the world, we expect to see a huge focus on recovery this year.
Investors are expected to move away from considering the US dollar and wider developed markets as the best place for their money, with an increased interest in emerging markets. Commodity prices are likely to remain high as demand recovers and the global supply chain gains pace due to growing confidence from consumers to spend their cash.
Successful logistics will play a pivotal role on the road to recovery, with the ability of governments to both reliably and speedily vaccinate the population while driving the global economy from a trade point of view, essential for success.
All this is underpinned by the assumption that interest rates will remaining at ultra-low levels throughout this year, and in certain cases, longer still.
When it comes to sector-specific recovery, the travel, airline, and leisure industries are expected to make a strong comeback when restrictions ease as consumers look to make up for lost time.
By contrast, commercial property and real estate are likely to face challenges as businesses revaluate how they use office space after nearly a year of successful remote working. This struggle will also be reflected by the increasing amount of empty retail space on British highstreets after the sector, and some of Britain’s most established brands, were hit hard in 2020.
What will we see from currencies across the globe?
The pound is reacting to a UK economy still very much in the grips of a pandemic, with strict lockdown measures likely to be in place until at least March. Add to that a new relationship with the European Union, and we’re likely to see the pound underperform in 2021, particularly against the euro.
Politics is likely to have less sway over sterling in 2021, with the exception of the upcoming elections in Scotland which are likely to raise the chances of another Sottish referendum on independence.
Despite the expectation that the pound will have a modest year, we do expect to see it move higher against the US dollar in the coming months.
All signs point to a strong start for the euro, and we expect it will continue the strength it showed at the end of 2020 for the months to come. Its counterparts in Scandinavia (NOK, SEK) and in Central and Eastern Europe (PLN, HUF) may even outperform the single currency as the Eurozone recovery outpaces the US and UK’s.
Markets are pleased that the Eurozone has managed to come together during a time of crisis and offer businesses and consumers both fiscal and monetary policy support. The political agenda looks a lot quieter for 2021, and this lack of political pressure coupled with a central bank that has shown its strength through the Pandemic Emergency Purchase Program, means sovereign risk is very low.
The US dollar is likely to remain weak as investors who have bought into the dollar during Trump’s tenure in the White House react to the transition to a Biden Administration – a change that is likely to normalise global trade and expand spending.
US businesses have struggled with international relations under the watch of a Trump administration and a calmer stewardship of trade should help to boost corporate profits in the coming months, allowing for further USD depreciation.
If the UK, Asia or the Eurozone are able to move forward with their pandemic recovery faster than the US, we expect the dollar to lag against both GBP and EUR, as well as other emerging currencies – the Chinese yuan, Russian ruble and Indonesian rupiah – in 2021.
The Japanese yen has acted as a safe haven from negative investment sentiment throughout the Covid-19 pandemic, and arguably long before that, pushing higher against other currencies in 2020.
While the yen would typically be sold off by investors in favour of more attractive investments, the overall outlook becomes more positive as it continues to show strength as we enter 2021. This could be down to the strange markets that we are currently navigating; vaccine joy tempered by very real near-term pandemic problems. Investors may also be positioning themselves for a wider retreat in the US dollar (USD).
Whilst the Japanese yen may enjoy some strength against the USD in the coming year and remains one to watch, we expect it to slip on a broader basis.
The Australian dollar has acted as a poster child for the recovery in risk assets since the early days of the pandemic, and its likely to remain ahead of its counterparts for the early part of the year.
Australia’s handling of the pandemic to date gives it an advantage over the likes of the UK and US, and as it enters the summer months with a vaccine rollout all but underway, the outlook is positive.
If market minds are focused on a recovery then we will be looking for a higher AUD, and it is not out of the realms of possibility that it could outperform the majority of the G10.
If 2020 taught us anything, it’s that nothing’s set in stone and as we start the new year in another lockdown, it looks like that’s set to continue for 2021. Either way, we’ll see the uncertainty of the world we live in continue to be reflected in the market and currency activity across the globe.
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