Currency World at Midsummer

July 16, 2019

The unofficial summer season occupies the period between the U.S. Memorial Day and Labor Day holidays, and the start of this week marked the midpoint of that interlude. This period when market participants take their longer vacations can be a time of discontinuity that lends itself to currency market volatility and trading that is less sensitive to economic fundamentals than found during other times of the year. The summertime also had a good share of unforeseen geopolitical surprises like the suspension of dollar/gold convertibility in 1971, invasion of Kuwait in 1990, a failed Russian coup in 1991, and the British referendum to leave the EU in 2016.

By such standards, summer 2019 has seen comparatively minor drama. Since the Friday closing before the Memorial Day holiday, the dollar has edged down a mere 0.1% against the euro on balance. Together, those two heavyweights in the arena of foreign exchange have declined around 1.0% against the loonie, 1.5% relative the the Swiss franc, kiwi and Australian dollar, and about 1.0% vis-a-vis the yen. Like the EUR/USD relationship, the yuan has barely moved on balance from its pre-Memorial Day level.

Alternatively, the biggest mover among major currencies has been sterling, which has been the object of downward pressure from concern that the U.K. will leave the European Union on October 31st without any negotiated terms to govern its relationships with former EU members. That said, the dollar is just 2.2% stronger now against the British pound than on May 24th. By historical forex standards that saw sterling devalue 14% in November 1967, tumble from $2.00 in early March 1976 to about $1.55 a half year later, touch an all-time low of $1.0345 in 1985, and suffer the humiliation of Black Wednesday in September 1992, the recent depreciation has been inconsequential. That’s especially so juxtaposed against the potential economic damage to Britain if the endgame of Brexit plays out as now seems likely.

Dollar stability this summer against the Chinese yuan and the euro seems ironic considering financial news headlines that warn that trade wars may be mutating into currency wars. Such a transformation makes conceptual sense. Against apparent unstoppable global disinflation, currency depreciation offers a very tempting option to politicians for enhancing the price competitiveness of exports and import-competing goods. No previous U.S. government administration was more consistently verbal in urging market participants to depreciate the dollar, yet the trade-weighted dollar now is less than 1.0% weaker than when President Trump was elected. Prior to Memorial Day, it was showing a trade-weighted uptick of 0.5% compared to election day of 2016, and the dollar currently retains a net appreciation of 8% from its Trump Presidency low-point in January 2018. By the time that Trump got elected, the trade-weighted dollar had lost 20% of its value compared to its Great Recession high in late 2008. The ironies of the lack of meaningful dollar movement especially against the yuan and euro is 1) that the Chinese economy is the principal object of Trump’s protectionism and 2) that Euroland’s economy is extremely vulnerable to the escalating dispute between Washington and Beijing and the risk that the trade war may get much worse.

The euro’s cross-rates against the British, Japanese, and Swiss currencies have not been moving in unison.

  • The franc today matched its June 20th high of 1.1056 per euro. The franc was trading at 1.1715 a year ago, 5.6% weaker against the common European currency than now, and the Swiss currency’s mean value since the start of 2017 is 1.1324 per euro. The franc has a long history of being horded in times of perceived global risk like the present. Euroland’s vulnerabilities to a hard Brexit, escalating military conflict in Iran, and the U.S.-Sino trade dispute are not shared equally by Switzerland.
  • Japan is also somewhat immune from the fallout of Brexit and multilateral protectionism. Since early February of 2018 when the euro peaked at JPY 137.53, the yen has strengthened 13.3% on balance to 121.37 yen per euro. One important differentiation between the yen and franc when contemplating upside potential is that the Swiss National Bank maintains an explicit promise to counter excessive appreciation with discretionary foreign exchange intervention: “The negative interest rate and the SNB’s willingness to intervene in the foreign exchange market as necessary remain essential in order to keep the attractiveness of Swiss franc investments low and thus ease pressure on the currency.” The Bank of Japan maintains a less negative interest rate than its Swiss counterpart and does not target its exchange rate.
  • Unlike the franc or yen, sterling’s current path of least resistance is downward against the euro as well as the dollar. At 0.9049 pounds per euro, sterling today touched is weakest level since January 11th. A hard Brexit will hurt Euroland’s economy but not nearly as much as such is apt to damage Britain’s. The pound has continued to trend south in the summer season of 2019 in spite of a higher 10-year gilt yield of 0.82% currently than its German equivalent, which carries a negative yield of 0.25%. Likewise, the Bank of England’s base rate of 0.75% offers a more attractive yield that the European Central Bank’s deposit rate of minus 0.40%.

Copyright 2019, Larry Greenberg. All rights reserved. No secondary distribution without express permission.




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