The Canadian dollar was reasonably strong until the first week of March, when the U.S. Federal Reserve (the “Fed”) began telegraphing the prospects of a rate hike at its March meeting. The Bank of Canada has appeared to continue to favour a somewhat weaker currency in spite of some strong economic data, including very strong full-time employment reports. Our opinion remains that the Canadian dollar is overvalued and we favour being short the currency.
Below is the Invesco Fixed Income team’s outlook for other major world currencies.
Stronger global growth environments, like the current one, are typically mixed for the U.S. dollar. The Fed demonstrated at its March meeting that it is not aiming to disrupt financial markets. This backdrop – above-potential growth and a benign Fed – should translate into mixed U.S. dollar performance versus developed market currencies. The U.S. dollar should underperform emerging market currencies broadly.
The euro remains depressed by negative interest rates, quantitative easing (QE) and a strong U.S. dollar. As the European Central Bank (ECB) begins to backtrack on QE and considers tapering, the euro should begin to appreciate but that is likely to be a Q2/Q3 story. The new U.S. administration’s attitude toward currency manipulators may see Germany especially pushing back against the ultra-loose monetary stance of the ECB. In general we believe QE has approached its conclusion and policy adjustments going forward are likely to be skewed toward supporting longer-term euro strength.
We expect the CNY and CNH currencies to trade on the stronger side of the 6.80-6.99 range in the month ahead. Softening in the U.S. dollar after the March Fed meeting is expected to continue to support the renminbi. Capital flows have stabilized and we expect foreign reserves to ratchet higher in the coming months. In addition to the valuation effect, tighter controls over corporate overseas investment and measures recently announced to encourage capital inflows should boost reserves.
The yen has been on a strengthening trajectory since the start of 2017. A large part of the strengthening can be attributed to external developments (i.e., concerns that the Trump administration will under-deliver, worries over European election outcomes, etc). It appears that the Trump administration is closely watching currency markets and, with the Bank of Japan unlikely to ease anytime soon, we do not see an obvious catalyst for a near-term correction brought about by domestic policy.
We expect sterling volatility to increase in the coming months as Brexit discussions get underway. These discussions could initially be negative for the currency, as the European Union adopts a tough negotiating stance. However, other forces could positively impact the currency over the medium term. A Trump administration that fails to deliver could be such a catalyst (U.S. dollar weaker), as could a failure of the eurozone to maintain its recent growth momentum (euro weaker). A French election outcome that increases the chances of an EU break up would also likely be supportive of sterling.
Signs that inflation is moving higher and positive data surrounding the current and trade accounts should be positives for the Australian dollar. With the economy appearing to be doing quite well, we do not expect the Reserve Bank of Australia (RBA) to lower rates further in the near future. We remain neutral on the Australian dollar.
With contributions from James Ong, Senior Macro Strategist, Brian Schneider, Head of North American Rates, Sean Connery, Portfolio Manager, Scott Case, Portfolio Manager and Alex Schwiersch, Portfolio Manager.