It was an interesting and some would say eventful first half of the year. A number of asset classes have been shaken out of their ” carry ” (trade where an investor sells a low interest currency & buys a high yielding currency) induced torpor. Volatility that we thought had been consigned to some ancient crypt has arisen and once again brings fear to markets.
When I look back at H1 2013, it feels like the FX markets have been volatile and unpredictable and in some respects they have. Certainly the Yen has seen some brutal moves (15.7% depreciation against the €) as the market takes on board the clear messages of Abenomics. Stg has as usual confounded, a sharp depreciation of c8% in Q1 . This was followed in Q2 by a return to the middle of it’s recent range cantered around .8500 and now we all wonder if it will ever again break out of it’s .8400 – .8600 trading range. Don’t worry it will but maybe not until Q4.
Then we come to the Eur/Usd, we started out 2013, worrying about sequester induced reductions in the growth outlook – buy the Usd, then we had the Cyprus debacle and talk of the Rubicon being crossed – buy the Usd, next up was the Italian elections, buy the Usd, Draghi considers negative interest rates – buy the Usd, why isn’t this Eur lower and why isn’t the Usd higher ? – Risk off, equity markets reach all time highs – sell the Usd. Then we get Ben’s bombshell, tapering could begin sooner than the market has priced in – buy the Usd. So where is the Eur/Usd now at the time of writing? It is within a big figure of where we opened on Jan 2nd.
H2 – No crystal ball but buy Usd?
As we all know predicting exchange rates is a precarious occupation at the best of times, so I will refrain from soothsaying. However we can clearly identify some events that may move markets in H2.
First off is the Fed’s signal that they will begin tapering their asset purchases sooner rather than later. This is a game changer! The surge (many would say unjustified) in stock markets in H1 has scared the Fed, they worry that they are creating financial bubbles that if allowed to go unchecked may run out of control. They also realise that the market has to begin to contemplate a world where interest rates could rise. They do not want an asset crash when they eventually close of the credit creating spigot – so unless the US tips back into recession, the multi year carry trade is dead and we enter the volatility of transition.
The German elections will also create event risk, not so much in themselves as the uncertainty that will be created in Europe once they are over and done with. Will Greece or Italy, perhaps even Portugal reignite the Eur crisis? Can China control it’s shadow banking problems without creating a recession in the world’s second largest economy? Will there be an orderly exit from over bought bond markets or will there be an unseemly and bloody rush for the exits?
So what does all of this mean, well in a post ”carry” risk averse world where volatility again stalks the markets – Buy the Usd and hope that at the end of H2 we are not still scratching our heads wondering why the Eur/Usd is not lower?