Where to place your currency bets
The Hong Kong dollar is strong. Pegged as it is to the US dollar – for better or for worse – the local currency is at a 12-year high against the euro and an eight-year high against the Japanese yen. It takes HK$5.90 to buy one Australian dollar – just six months ago it took HK$7.20 to do so.
So is this a good time to scoop up a few foreign currencies that could be stronger in a distant future – one year from now, say, or even three to five years from now? After all, the US is not a country that tends to favour a strong currency over the long term.
The greenback’s recent strength is largely explained by changing interest rate differentials. US policy rates are set to rise after years of radical cheap-money tactics, while monetary settings elsewhere are heading in the opposite direction. In Asia, economies that have been cutting rates include mainland China, South Korea, Thailand, Australia and India.
Commodity export sales will remain a support for the Australia dollar
Yet nothing lasts forever. Let’s consider three of the biggest trading currencies in the region: the yen, yuan and Australian dollar.
The yen: Perhaps this currency is the most obvious counter-bet to a strong dollar, if only because Japan will eventually be experiencing what the US is now – the appreciation effects of a normalisation of policy.
Japan’s experiment with unconventional central bank tactics is even more radical than America’s, with a larger proportional expansion of its monetary base.
The Bank of Japan is not yet close to meeting its targeted 2 per cent inflation rate, so there does not appear to be any “taper” on the horizon. Yet Japan’s experiment is risky and depends on political will.
Earlier this year Switzerland shocked the foreign exchange trading community by abruptly dumping its ceiling against the euro, amid signs that the programme was becoming unpopular with the Swiss electorate.
Japanese Prime Minister Shinzo Abe has almost single-handedly rammed through Japan’s monetary experiment; if his star falls the country could revert to a normal policy earlier than expected. At any rate, the central bank balance sheet can’t keep expanding forever.
The yuan: After years of going nowhere but up, the yuan fell slightly against the dollar last year. But many other regional currencies fell much harder – and some have warned that Beijing will play catch-up on the devaluation front.
The issue is this: growth is slowing on the mainland but, with high overall debt levels, it cannot afford another huge credit expansion. So a number of banks and professional investors have predicted the mainland might resort to a proactive devaluation policy this year, in an attempt to export its way to stronger growth.
Without some kind of crash, however, how low will the yuan go? Real, or inflation-adjusted, interest rates are reasonably high on the mainland and will likely remain so until it disgorges more of its debt overhang from the huge credit expansions of recent years.
And if the mainland does successfully deleverage over the coming years, then it will start to look like an Asian Switzerland or Germany: conservative and prone to current account surpluses.
This year’s weakness in the yuan might provide a decent window for those who want to hold the currency over the long term, as seems to be the case with many Hong Kong savers.
The Australian dollar: The Aussie is it a bit of a puzzle. The currency is hugely overvalued on a purchasing-parity basis, because Australia offers investors one of the highest OECD yields, coupled with a sound banking system and high sovereign rating.
Yet the country also runs a persistent current account deficit, is extremely expensive, and just feels bubbly. As an Australian emigrant described it after a recent visit home: “It’s a strange place. All the young people are happy and good looking, and seem to surf for a living.”
Seriously though. The superior Australian yield is intimately connected to its outsized mining sector. Commodity export sales will remain a support for the Australia dollar, but new mining investment could be weak for years to come. This means less competition for funds, and thus room for Australia’s interest rates to continue falling.
The Australian dollar has a long track record of roaring back after brutal sell-offs. One can’t help but wonder if this trick has finally played out.
