FX Watch – Asian FX : Short term reprive

by: Roy Teo

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We have become less bearish on the short term outlook for the Chinese yuan, Singapore dollar, Taiwan dollar, South Korean won and Thai baht. The Fed does not look likely to hike in the near term, while there are also various positive domestic developments, with policy settings likely to be a less negative factor. However, our year end forecasts for Asian currencies remain unchanged as we still think that financial markets are underestimating the pace of rate hikes in the US, while domestic risks remain.

Asian currencies: Less bearish in short term

We now think that the depreciation of a number of Asian currencies against the US dollar will be at a slower pace in the short term. US economic growth in the first quarter looks to have been softer than expected and our economists pushed back their forecast for the first Fed rate hike recently. Furthermore we think that sentiment in several Asian currencies will be more supportive in the near term due to various favourable domestic developments. Nevertheless we have maintained our year end forecasts given that our economist maintain the view that financial markets are underestimating the pace of Fed rate hikes in the coming months, while domestic risks in Asia remain.

 CNY: Slower pace of depreciation desired

We are less bearish on the yuan in the next two quarters due to the PBoC’s lower tolerance for a sharp depreciation in the currency. We suspect that the PBoC has recently intervened in the currency markets to support the yuan, as the bearish sentiment in the currency was near extreme levels. In addition, though we maintain our view that there is a case for a weaker yuan to support exports and to inflate the economy, the central bank is leaning against market speculation that a weak currency is a one way bet. Other monetary easing tools are preferred currently. Nevertheless, we maintain our 2015 year-end target of 6.35 as we do not expect the central bank to intervene on a sustained basis. We think they would like to show that the yuan is more market determined, which is one of the criteria for the yuan to be included in the SDR basket. Engineering a resilient daily fix, while other currencies are depreciating against the USD will also invite criticism that the exchange rate is still heavily managed. Moreover, in our view the yuan is no longer undervalued as the real effective exchange rate has strengthened by almost 30% since it stopped being pegged to the dollar in the middle of 2010. Furthermore recent data flow reinforce our view that China will be a net capital exporter (outward investment to exceed foreign investment into China) this year.

FX Watch 1

SGD: Slower pace of depreciation as MAS on hold

Recently, the Monetary Authority of Singapore (MAS) kept monetary policy unchanged after easing its policy in a January interim meeting. We were of the view that the MAS had room to ease further due to weak (core) inflation data. With the MAS staying on hold, we now expect the Singapore dollar (SGD) to decline at a slower pace in the coming months. Looking ahead we expect the S$NEER to trade within the lower half of the band as core inflation is still expected to trend lower in the coming months. A weaker euro and Japanese yen (both constitute almost 25% of trade weights) will continue to weigh on the SGD. The SGD will also be vulnerable to slowdown in China. Our year end forecast of 1.40 remains unchanged.

 TWD and KRW: China stimulus to support sentiment

China’s recent monetary easing is expected to support sentiment in both the Taiwan dollar (TWD) and South Korea won (KRW) given both economies’ close economic linkages with China. The Chinese yuan also constitutes more than 25% of both currencies’ trade weighted basket.  As a result we are now less bearish on both the TWD and KRW in the coming months. Our year end forecasts remain unchanged as weakness in the Japanese yen and euro will result in greater competition for Taiwan and South Korea’s exports given high export similarities. A recovery in commodity prices will also put pressure on the terms of trade. We also do not rule out rate cuts in both economies later this year as inflation remains below target. A rate cut will indirectly weaken both the KRW and TWD and mitigate exporters’ price disadvantage as both the yen and euro are expected to weaken further  this year.

FX Watch 2

THB: some bright spots in the economy though currency valuation getting stretched

The Thai baht (THB) has been more resilient than previously envisaged, due to much larger gains in the terms of trade and the current account balance since the beginning of this year. Business sentiment and investment intentions have also shown some recovery in recent months. As a result, we are less bearish on the Thai baht (THB) for the next two quarters. However, we continue to expect the THB to decline towards 34 by the end of this year for the following reasons. First, the valuation in the THB is increasingly stretched. This will continue to weigh on export growth. Second, domestic consumption remains weak. Third, businesses’ demand for loans have stagnated due to political uncertainty (public referendum likely in November 2015). Last but not least, further gains in the THB will put further downward pressure on inflation, increasing the likelihood of a rate cut later this year.

FX Watch 3

INR and IDR: Less fragile but risks remain

We have left both the Indonesian rupiah (IDR) and Indian rupee (INR) forecasts unchanged. On the one hand, both currencies are less vulnerable to external shocks than they were during the tapering tantrum in 2013 and early 2014, given that foreign currency reserves have risen to about 10 months of imports. In addition inflationary pressures are also gradually easing and their respective trade balances have also improved. On the other hand, we remain cautious on both currencies as foreign ownership of Indonesia’s government bonds remains high despite declining by 1.5pp to 38.6% in March. It is also evident that the Reserve Bank of India has been actively purchasing the USD since September last year given the strength in the INR. In addition, foreign direct investment flows into India have recently moderated, while gold imports have increased.

FX Watch 4

FX Watch 5