FX Monthly – Four big themes for 2014

by: Georgette Boele

131120-FX-Monthly.pdf ()

Four themes set to drive currencies in 2014 and 2015

There are four big trends that are likely to drive foreign-exchange markets over the coming two years. First, we think that the Federal Reserve’s reduction in its asset purchases and expectations regarding when the Fed will raise interest rates will again dominate, but that it will prove to be a more benign process than the dry run over the summer. Second, we expect strong global growth in 2014 and 2015, which will bring cyclical differences between currencies more sharply into focus. Our third theme is positive investor appetite, which will result in a focus on a search for yield as well as fundamentals. Finally, we expect a lacklustre performance in commodity prices, with a few exceptions, which will hurt the performance of commodity currencies.

EUR/USD to move lower

The euro-dollar pair defied our expectations of a drop in 2013, to move slightly higher instead. However, the stars should finally align to push the EUR/USD lower in 2014 and 2015. We expect a chasm to open up between the direction of monetary policy on either side of the Atlantic. The Fed is likely to start tapering its asset purchases in March of next year, while we expect further action by the ECB to fight uncomfortably low inflation. Meanwhile, we expect the Fed to start hiking rates in 2015, compared to a more extended period of accommodative policy in the eurozone. In addition, we expect a sharp acceleration in US economic growth, contrasting to only a sluggish recovery in the eurozone.

Our currency top and bottom picks

Indeed, the US dollar is our top pick more widely. Sterling and the Swedish krona also number among our favourites. In the case of the pound, we have an above-consensus view on the economy and expect earlier and above-consensus rate hikes. The Swedish Krona could also benefit from an upswing in the Swedish economy, as we judge that the market is currently too pessimistic on the outlook for economic growth and monetary policy. The Swedish currency is our preferred Scandinavian currency, because it is more cyclical, has a lower exposure to commodities and a more attractive valuation. Turning to emerging markets, we expect currencies with a substantial exposure to global trade and the US economy and that yield attractive returns to do well. We are therefore positive on the Chinese yuan, Korean won, Mexican peso, Chilean peso and the Polish zloty. The yuan should also be generally be supported by the liberalisation of the capital account, but in contrast to 2014, it could be hurt by a slowdown in growth in 2015. We are negative on commodity currencies, including the Australian dollar, the New Zealand dollar and the Canadian dollar. We also do not favour safe-haven currencies, such as the Japanese yen and the Swiss franc.