Eoin Treacy's view -
Thank you for your always articulated views on the general macro. Highlighting the China risk (“China deserves an additional risk premium”) and the direction of credit spreads (“EU junk spreads have been on the rise in 2018”) are particular eye opening
One point on USD though. In your videos resp. online reports, you say / write that the USD should get stronger. One of the reasons you add to the commentaries is that the FED is on its hiking path and the interest rate differential makes the USD interesting relative to zero / negative interest currencies. In addition, you write that Gold suffer when nominal rate rise less than inflation (i.e. real rates rise) and when the USD is on the rise. I hope I am correct in the summary. Otherwise please correct me.
If I look at the recent history I am puzzled to note following: the FED started to raise rate in Dec 2015 and EUR/USD was at around 1.08 USd per EUR. Likewise gold was trading at something like 1’100 USD / Oz. at the same time.
How is it that 1+6 hikes later (1 in 2015, 1 in 2016, 3 in 2017 and 2 in 2018), EUR /USD is at 1.17 and gold is at 1.250 (and was 1300 just 2 weeks ago)? shouldn’t rate hikes make the USD interesting relative to ZIRP / NIRP countries like the EU Area or Japan?
Isn’t it that the current dollar strength is nothing more than an adjustment of a USD oversold condition prevalent until April? (due to lots of carry trades with EM currencies accumulated last year, most of which are done via a cross on the USD because of liquidity constraints with smaller currencies)
And that when the entire market hysteria around tariffs and on Trump tweets on NATO, on Germany and China retaliations threats etc. etc. calm, we will see the normal path of rising US interest rates and a falling USD combined with a rising JPY and EUR and rising Gold again? at the end of the day this makes sense. Otherwise it would be like a free lunch (buy USD, invest at higher rate and gain on the exchange rate). it cannot last forever.
Negative interest rates and ZIRP are deflationary policies. It makes sense for the EUR and JPY to appreciate.
Am I missing something?
Ps: if I look at history on other countries, higher rates are not supportive for a currency. Look at Turkey, Argentina, etc. All down sharply. the higher the rates to stem a crisis, the lower the currency.
On the other end, when the Bank of Russia reversed its super high interest rate policy after the 2014 crisis, RUB (and its equity market) started to recover. And RUB was also relatively stable during the most recent EM crisis
I would not be surprised to see TRY doing the same if the new governor reduces rates (the FT reported that Erdogan is not a fan of high rates) and the ministry of finance enact a policy aiming at reducing the current account deficit. Then TRY should recover despite the bad-to worst governance structure of the country
I would be interested in hearing your view on that
Best regards and nice holidays in China!
Thank you for this email which raises a number of points about currencies and what we can expect from various asset over the medium-term.
I think the most important thing to remember about currency markets is that they are a discounting mechanism just like equities and bonds. When we think about interest rate differentials it does not make sense to look at today’s levels because that is already in the price. We need to look further out.
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