FX Monthly – The resilient euro

by: Georgette Boele , Roy Teo

140313-FX-Monthly.pdf ()
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Revisions to our EUR/USD forecasts

For almost nine months now, the EUR/USD has defied our expectations that a downward trend would take shape. Euro supportive factors have had a bigger impact than previously expected, while the ECB has been more tolerant of lower inflation than we thought it would be. As such, we have revised our forecasts for EUR/USD significantly higher, though we still expect the direction to be lower. We think that up to the fourth quarter of 2014, euro supportive drivers such as demand for peripheral bonds, LTRO repayments and selective safe-haven support will partly offset the impact of a strengthening of US economic data on the cross, resulting in only a modest fall. However, we expect a stronger appreciation of the USD versus the EUR in Q4 2014, which will gain momentum in 2015, as the USD cyclical drivers and in particular Fed rate hike expectations become increasingly dominant. This will result in a lower EUR/USD.

EM currencies recover despite weak spots

Emerging market currencies have recovered versus the US dollar since the release of our last FX monthly on 5 February. An improvement in confidence, brighter investor sentiment and better than expected domestic data have contributed this recovery. However, there were some weak spots. The Chinese yuan has moved lower because of fears about the economy and the lower fixing by the People’s Bank of China. The Russian ruble was the largest underperformer because of the tensions between Russia and Ukraine.

No change in our high conviction views…but some changes in forecasts

We continue to have a strong conviction in our US dollar long versus the euro, Japanese yen and the Swiss franc and keep our sterling and Swedish krona long versus the euro in place. Furthermore, the Mexican peso and Polish zloty are our preferred emerging market currencies.

CNY: Not a one-way bet

After the weak start of this year, we expect the CNY to recover again. First, we judge that the weak data since the beginning of this year is partly due to distortions related to the Lunar New Year and therefore is unlikely to persist. We forecast that the economy will grow around 7.5% this year. Second, China is still expected to record a current account surplus. Third, the demand for the currency as a trade settlement and reserve currency will continue to increase. Fourth, a strong currency will help to reduce imported inflation and support disposable incomes, which is consistent with a gradual move to a consumption-led growth model. Last but not least, valuation metrics suggest that the currency is not expensive.