Market commentary: Currencies, markets and Central Banks

With a pivotal Federal Reserve meeting scheduled this week, equity markets continue to trade without a clear direction, with investors often taking profits as soon as stocks attempt to rally higher.

Yesterday all major indices across the globe closed in negative territory, erasing part of the gains recorded last week, or extending losses posted on Friday. 

While European markets opened higher this morning, both Asia and US closed their latest sessions in the red, with the Shanghai Composite Index booking another sizable daily loss, dropping over 3% during overnight trading.

As all investors prepare themselves for the FOMC meeting on Thursday, when the US Central Bank might finally decide to pull the trigger on its first interest rate hike since the 2008 financial crisis, currencies and diverging monetary policies took the spot light once again, with analysts returning to discuss current market dynamics.

The major topic of discussion is still the remarkable appreciation of the US dollar, which continues to be among the best performers within the currency markets, as many do not see the US currency reversing its uptrend any time soon. Over the past 24 months, the US dollar has gained as much as 20% over the Japanese Yen and 17% over the Euro, driven by better economic fundamentals in the US, and a recent flight to safety in response to an unusually high and prolonged volatility in the markets.

With the greenback just 8% short of its record high reached in February 2002, economists and analysts alike are now pointing out the potential negative impacts that such a strong currency may eventually have on US corporate earnings, overall growth and country’s inflation.

Moreover, the recent one-direction appreciation of the dollar, which has been gaining against pretty much all other major currencies, comes at a time when global coordination in the currency markets is rather elusive, if not completely non-existent. In fact, while the current prolonged appreciation resembles the greenback run up in 1984, this time diverging monetary policies around the world are not helping the US in its attempt to talk down the dollar.

With Europe and Japan in the middle of extended QE programs, commodities related currencies such as the Australian and Canadian dollars in free fall, and emerging currencies already under pressure, analysts do not believe the US currency will stop outperforming its peers.

While the Federal Reserve is expected to have a hard time deciding whether the negative impacts of a strong dollar would outweigh calls for the beginning of a normalization in interest rate policies, on the other side of the Pacific, the Bank of Japan opted to refrain from adding new monetary stimulus on top of the extended number of easing measures already implemented.

Japan’s Central Bank decision to sit and hope for a natural resumption in growth, despite the country’s economy shrank during the second quarter of the year and Japan’s inflation remains close to zero, has provided some support for the Yen, and put additional pressure on Prime Minister Shinzo Abe to propose a fiscal package able to support a second half of the year’s lackluster recovery, an extension of the current Abenomics plan.

Japanese stocks closed modestly up this morning, adding about 0.34%, while the Yen gained against the US dollar and the Euro, supported by the Central Bank decision not to boost stimulus. US equity futures point to a weak opening as investors remain focused on the willingness of Central Bank’s Governor Haruhiko Kuroda to step up monetary support for the country’s economy and the market reaction to a potential US interest rate hike decision coming later on this week.

Disclaimer:

This article was issued by Paolo Zonno, Trader/Analyst at Calamatta Cuschieri. For more information visit, www.cc.com.mt .The information, views and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri & Co. Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.