Emerging market rout continues while G10 currencies maintain holding pattern
27/Aug/2013 • Currency Updates•
Worldwide currency markets experienced unusually divergent behaviour last week. Most advanced currencies moved in narrow ranges with low volatility and trading volumes, as is typically the case during the August holidays. Emerging market currencies, in contrast, experienced yet another week of turbulence. Investors have been spooked by the prospect of near-term Federal Reserve “tapering”, and some of the more popular “carry trades” of the past few years are being unwound in a hurry. Currencies from countries with current account deficits and poor Government finances, such as the Indian Rupee, the Indonesian Rupiah and the South African Rand are being singled out for punishment. We are keeping a close watch on these moves, and will shortly be publishing a Special Report and new forecasts for all these and other currencies. Watch this space.
Strong macroeconomic dataflow continued last week, albeit limited to second-tier releases. The CBI survey of industry trends rose strongly for the second consecutive month. Further, GDP growth in the second quarter was revised upwards, to 2.8% saar (seasonally adjusted annual rate) growth. As a result of these data and the previous week positive employment news, rate hike expectations have been pushed higher than the Bank of England appears to be hinting to in its forward guidance. However, the minutes of the last MPC meeting only added to the confusion, as they suggested that “some” members think that current hike expectations are justified by the data. Although we do not expect any move or communications out of the next MPC meeting, we think that next week’s speech by Carney is key to ascertain the extent to which positive surprises are changing the outlook of the MPC’s more dovish members.
The PMI business sentiment indices out of the Eurozone eked out another gain in August. The composite index rose 1.2 to 51.7, a level consistent with growth of about 1%. Once again, the overall number masked a gap between Germany and the periphery, but this gap is slowly shrinking. We acknowledge the better tone in European data, but are paying attention to high-frequency indicators in the Italian and Spanish job markets before we agree that these key economies have touched bottom – so far, this does not appear to be the case. At any rate, this recent improvement takes the pressure off the ECB, at least temporarily, and therefore we do not expect any policy change or new forward guidance out of the September meeting.
The key issue over the coming months in the US will be whether the economy has enough momentum to withstand the impact of higher interest rates. We saw conflicting signs last week. The most interest-rate sensitive sector of the US economy – housing, is already feeling the impact of sharply higher mortgage rates, as new housing sales dropped 13.4% saar (seasonally adjusted annual rate) in July. On the other hand, the manufacturing PMI business sentiment index improved to a very healthy 53.9 in August, and weekly jobless claims, perhaps the best high-frequency indicator of business trends in the US, continues to drop. We maintain our call for the taper to start in September, and therefore we think that US dollar appreciation will continue, particularly against the most vulnerable emerging market currencies.