Top emerging Asia currency forecaster warns of too much optimism

[SINGAPORE] Currencies in emerging Asian markets are rallying, and the most-accurate forecaster is warning there's too much optimism.

Investors are "too dovish" on the Federal Reserve's rate path, which helped drive a measure of the region's currencies to a six-month high even as exports are struggling, according to Frances Cheung, the head of Asia macro strategy at Westpac Banking Corp. Trade talks between the US and China could still fail, while countries such as India and Indonesia, with current-account deficits, are also facing election risks this year.

"I don't think those so-called optimistic headlines would be able to sustain the rally in Asian currencies," Ms Cheung at Westpac, which topped the rankings by Bloomberg as the most-accurate forecaster of emerging Asia currencies in the fourth quarter of 2018, said in an interview in Singapore. "Investors need some concrete thing, not promises anymore, to see that there would be a turnaround in external demand".

A gauge of Asian currencies has rebounded more than 2 per cent since reaching a low in November amid optimism the US and China would reach a compromise on trade and the Fed will pause in its interest rate-hiking cycle. The rebound comes even as evidence is mounting that the region's exports are already taking a massive hit from the trade war.

Chinese exports declined in December from a year earlier, a trend that was also experienced by South Korea, Taiwan and Indonesia. Gauges of manufacturing have gone below 50 - a level that signals a contraction - in China, Taiwan and Malaysia.

"We are still very cautious towards the prospect of a deal being made," Ms Cheung said. "The US has set the bar very high for China to cross in order to reach a deal," she said, citing issues such as intellectual property rights and transfer of technology.

Westpac is most bearish on the Indian rupee and Indonesia's rupiah, as their current-account deficits make them vulnerable, Ms Cheung said. So far this year, the advance in Asian currencies have been led by the Thai baht, Indonesian rupiah and the Chinese yuan with gains of 2.6 per cent, 1.5 per cent and 1.2 per cent, respectively. The Indian rupee is the worst performer with a 2.3 per cent loss.

Below are other comments from Cheung on Asian currencies:

INDIAN RUPEE

The rupee will be on a weakening path; apart from concern on the external balance, the bank is worried over the fiscal position as the ruling party may adopt more so-called populist policies.

Brent crude could be around US$63 to US$65 a barrel. This will still help India's current-account deficit but not as much as the earlier decline to near US$50 would have done.

Year-end estimate for the rupee is 74 per dollar, a drop of nearly 6 per cent from 69.77 at the end of last year.

INDONESIAN RUPIAH

The rupiah will be very volatile. "We cannot rule out it would strengthen a lot and then weaken a lot".

The correlation is very high between the local bond market and the FX performance. If the risk sentiment changes, that would have an "amplified effect" on the rupiah.

"The market is already ahead of itself. We don't think the rupiah can strengthen much beyond the current levels".

The bank's end-year forecast for rupiah is 15,250 per dollar; an almost 6 per cent fall from 14,390 at the end of last year.

CHINESE YUAN

The yuan can outperform other Asian currencies; year-end estimate at 6.85 per dollar, little changed from 6.873 at the end of last year.

There is very minimum capital outflow risk; bond market is attracting inflows as China is easing and foreign funds have very low exposure to Asia's largest economy.

Fundamentals may justify a weaker yuan, but the currency is "partly policy-driven;" authorities wouldn't want to see a "rapid depreciation" as it may lead to things getting out of control.

BLOOMBERG