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US dollar: Neutral. In our view, the US dollar remains trapped between two trends. Interest rate hikes (and ongoing balance sheet reduction) by the US Federal Reserve have increased US dollar funding costs and tightened financial conditions, further fueling the US dollar rally. However, while global growth has been strong, it does appear that US economic activity has peaked. This convergence typically causes the US dollar to weaken. If the trade environment stabilizes, this may benefit other currencies versus the US dollar in the near term.
Euro: Neutral. We remain on the sidelines despite the bounce in the euro/US dollar exchange rate from its lows in August. Risk aversion across emerging market currencies (sparked by Turkey) has abated but remains unresolved. While the fundamental economic picture has improved in the euro area, exogenous factors driving sentiment across currency markets remain unpredictable.
Renminbi: Neutral. The renminbi/US dollar exchange rate traded between 6.80 and 6.90 in September, driven by various headlines related to US-China trade friction.1 The People’s Bank of China (PBOC) daily fixing level has been consistently stronger than market expectations. This has helped stabilize the currency, especially during US dollar-strengthening moves. The planned issuance of PBOC bills in the offshore market may give the central bank another tool to manage renminbi liquidity and exchange rate stability. Capital controls on outflows remain tight, but financial market opening, such as the inclusion of Chinese equities and onshore bonds in major global indexes, will likely further increase overseas demand for Chinese onshore assets and could help maintain stable capital flows. We expect the exchange rate to hover around 6.80 to 6.90 in the near term.
Japanese yen: Overweight. The yen remains dependent on yield differentials, in our view. The recent rise in US Treasury and German bund yields pushed the yen weaker versus the US dollar and the euro. However, long-term valuations suggest the yen is undervalued, and a reversal of the recent rise in global yields (possibly due to falling growth expectations) should be positive for the currency. Consequently, long yen positions should act as a partial hedge to risk assets.
British pound sterling: Overweight. We recently adopted an overweight position in sterling versus the euro due to our expectation of a more favorable outcome to the Brexit negotiation than is currently anticipated by the markets. Economic data in the UK have also begun to show signs of recovery after a weak first half of the year, and inflation remains well above the Bank of England’s 2% target.2 These dynamics suggest that a positive Brexit outcome could spur a strong sterling performance.
Canadian dollar: Neutral. NAFTA negotiations between the US and Canada were resolved on September 30. The resolution reduces a major headwind for the Canadian economy. Second quarter GDP growth showed a rebound from first quarter weakness, and the positive outcome on trade should increase future growth estimates at the margin. The Canadian dollar moved higher following the positive NAFTA news. The currency may continue to see near-term gains, driven by momentum and a likely rate hike by the Bank of Canada at its October meeting, but we believe it is already entering overvalued territory and additional strength in the Canadian dollar will be difficult to sustain.
Australian dollar: Neutral. The Reserve Bank of Australia has said it will be very patient with interest rates but recently stated its next move will likely be higher. It has been neutral for some time, so announcing that its next policy move will likely be for higher rates is somewhat hawkish, in our view. That being said, it is unlikely the bank will move any time soon. We do not believe the trade war is over and any new escalation could pressure the Australian dollar down again.
Indian rupee: Neutral. The rupee has experienced a significant selloff (especially in the last several weeks), depreciating 11.75% year-to-date against the US dollar.3 We see this as being largely driven by an increase in crude oil prices, foreign portfolio outflows and investor fears of a higher current account deficit. Some policy initiatives have been announced in recent days to stabilize the rupee, and we expect the Reserve Bank of India to initiate more concrete policy intervention measures should there be any further sell off in the rupee.
1 Source: Bloomberg L.P., Sept. 3, 2018 to Sept. 20, 2018
2 Source: Bank of England, 2016
3 Source: Bloomberg L.P., Sept. 19, 2018
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The risks of investing in securities of foreign issuers, including emerging market issuers, can include fluctuations in foreign currencies, political and economic instability, and foreign taxation issues.
The performance of an investment concentrated in issuers of a certain region or country is expected to be closely tied to conditions within that region and to be more volatile than more geographically diversified investments.
The dollar value of foreign investments will be affected by changes in the exchange rates between the dollar and the currencies in which those investments are traded.
Ray Uy, CFA
Head of Macro Research and Currency Portfolio Management
Raymund Uy is Head of Macro Research and Currency Portfolio Management for Invesco Fixed Income.
Mr. Uy has been in the industry since 1993. He has experience in a variety of functions, including global fixed income trading and portfolio management; currency trading and portfolio management; credit research and macroeconomic analysis.
Mr. Uy worked at Hartford Investment Management (HIMCO) for eight years prior to joining Invesco in 2012. At HIMCO, he was a lead portfolio manager for non-US-dollar-based fixed income portfolios, and as head of Fixed Income Trading, he managed a centralized platform of traders across multiple fixed income sectors. Before joining HIMCO, Mr. Uy spent six years at Mackay Shields in New York and five years at Fiduciary Trust.
He earned a BBA from Hofstra University in New York, and is a CFA charterholder.