US-China trade weighs heavily on currency outlooks from the US to Europe and countries pegged to the Dollar
Written by Jameel Ahmad, Global Head of Currency Strategy and Market Research at FXTM
The volatile combination of geopolitical and economic factors dominating the foreign exchange markets appear to be concentrated on some major currencies more than others. In 2019, the top currency trends focus mainly on the GBP, USD, EUR, CHF, AUD and JPY.
Starting with the strongest currency to date, the USD faces more headwinds this year than last year. That is to say, trade disputes with China resulted in an economic storm in Asia which travelled through bilateral supply lines to rain on the US economy’s parade. Exports to China have dropped and investors are anxious over the prospect of losing access to the gigantic Chinese markets. President Donald Trump’s confidence that a trade deal will be reached is reassuring, but if the trade dispute resumes in March after the 90-day truce period, the USD may be vulnerable to more volatility. The Federal Reserve knows this well and has slowed down the pace of its interest rate hikes, adding to the probability that USD-denominated assets will have less support from the central bank this year and dimming the currency’s attraction as a safe haven.
The Federal Reserve’s pause on interest rate hikes has an effect on USD-pegged currencies like the Dirham. USD bears may believe the currency will weaken now that the interest-rate outlook is dimmer. By the same token, the bulls may take the view that a trade deal will be reached between China and the US by March, boosting the prospect of a return to stronger growth in both countries.
Much closer to the fallout from Asia’s slowdown is Australia, which counts China as its biggest trading partner. The AUD is part of an environment showing higher economic risks, including weaker exports to trading partners and the chance of a sudden devaluation if the situation declines significantly. About the only way out of a massive increase in risks to the AUD is if there’s a US-China trade deal to calm investor nerves and reinvigorate economic growth. The same can’t be said of the Japanese Yen. The currency still enjoys safe-haven status, meaning it may be a favourite for investors seeking shelter from market storms and Asia’s economic slowdown.
Moving to Europe, the Euro faces a host of challenges in 2019, namely the US-China trade dispute, Brexit, a recession cropping up in Italy and weaker growth in Germany. Overall, the Eurozone posted weaker growth in 2018, meaning less support for the block’s currency. European luxury goods companies suffered losses in China as consumers cut their spending. Italy’s recession may have a nasty downside if the country’s banking sector experiences a significant level of defaults and this prospect raises red flags over a knock-on effect in the country’s sovereign debt sector. Meanwhile, long-drawn out Brexit negotiations fail to pass the House of Parliament and threaten to end up on the junk heap of trade deals, leaving the UK heading for a hard end to its EU membership.
By the same token, the GBP faces the chill winds of trading with Europe as a third country and an overnight reduction in easily-available markets for British goods in Q2. The manufacturing sector is taking the strain, according to recent PMI results. Unless Prime Minister May can strike a deal with the European Union which is accepted by the UK legislature, the GBP is in for a rough ride this year, at least until a clearer picture emerges of the way forward.
Switzerland’s national currency sinks or swims with the country’s economic performance, which hasn’t seen smooth sailing. As of the second half of 2018, the Swiss economy was becalmed amid the worst growth rates since 2015, mainly due to a fall in exports to its EU trading partners. On the other hand, the Swiss Franc may see some upside amid safe-haven buying which is on the rise due to heightened uncertainty and volatility in the markets.
To sum up, geopolitical factors are the heaviest influence on these currencies at the time of writing, and the month of March is the crossroads where the trends may change rapidly. During this critical juncture, the uncertainties over Brexit and the trade deal between the US and China reach their limit. It’s reasonable to expect that in the case of no trade deals in Europe or Asia, the affected currencies may weaken with the exceptions of the safe havens Yen, CHF and to a lesser degree the USD.
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