FX Market View #23

The Dollar could not hold onto the gains made earlier in the week, as it paired losses against most currency majors as well as emerging market currencies. The catalyst behind the sliding Dollar most likely stemmed from two sources. Firstly, the geo-political environment heated up following the inconclusive talks between the US and China, which was the first direct communications in six months. And secondly, investor attitude towards global risk appetite was on the rise. Additional factors contributing towards the Dollar paring losses can originate from strengthening Euro-block action. The ECB is now closing the gap on the Fed in terms of the prospective rate of stimulus tapering. As a consequence the common currency is experiencing a relative boost.

Leading to a more recent market theme, investors now appear more likely to back currencies from countries whose central banks are seeking to tighten monetary policies. This market theme is heightened as currency volatility continues to edge lower, with investors evaluating the confident of central banks willing to begin tapering their stimulus programs. Currently, a key imposing risk that countries are facing is the new Delta variant of the corona virus. As a result, the policy decisions of the central bank will have a direct impact on how well their economy is coping with this variant. Any risk that could halt an economic recovery, leading to fresh lock-downs and restrictions will be reduced by extending QE programs. However, this action delays potential currency appreciation.

A re-occurring market theme, which is not only exclusive to currencies, is the potential risk of rising inflation. By the end of September, five of the major central banks will have released their policy of managing this risk. Over the past few months the Fed has stood by its rhetoric that elevated levels of inflation have been transitionary, and will subside with a general economic recovery. However, simply extending stimulus programs to boost economic activity is not a long term solution. Unfavourable Inflation report data amongst the G10 nations will not result in direct monetary tightening; however it can set the pace on future cycles. This week long Dollar positions have returned but the gains have been modest at best. The Euro saw gains on the back of the ECB reducing the pace of asset purchases, however without stronger trends developing.

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