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US dollar will be under pressure against Asian currencies in 2019
IN 2018, the US economy grew at its fastest rate in nine years and this should have helped regional exports, economic growth and our financial market. Not really. This recipe for success lacked a weak US dollar.
US dollar appreciation can cause damage to Asian equity markets even when we have a strong US economy. Recall that during the 1997/98 Asian financial crisis, Asian currencies, as represented by the Bloomberg-JP Morgan Asia Currency Index (ADXY), fell 22 per cent over 12 months. This was followed by 47 per cent and 58 per cent declines in the Straits Times Index (STI) and MSCI Asia-Pacific Index, respectively. Over in the US, the economy was booming, growing at 4 per cent. That did not help our local market. In 2018, our STI was down almost 10 per cent and ADXY fell 4 per cent.
As the chart shows, movements in STI directionally mimics the ADXY. We attribute this to portfolio liquidity flows. In the past 15 years, gains in the ADXY (ie US dollar weakness) have coincided with positive returns from the STI, except on three occasions.
In our 2019 Phillip Singapore Strategy Report, we postulated that upside to the STI will be based on this reversal of liquidity. Global growth is clearly losing momentum. Recent new-order PMIs from the US and industrial production in Germany were major disappointments. Yet, despite this soft economic backdrop, we believe the STI can register positive gains, as we see a near-term peak for the US dollar in 2019.
Firstly, we are optimistic on a trade truce between the US and China. American President Donald Trump has reversed hard stances before, from "Fire and Fury" on North Korea to shaking hands with its leader Kim Jong Un several months later. Iran was to face "consequences . . . few throughout history have ever suffered". Four months later, Mr Trump gave all major importers of oil from Iran 180-day waivers from his own sanctions. It shows the man can change his mind several times. Moreover, he has the 2020 presidential elections to worry about.
If there is no trade truce, the impact on financial markets and economies will be severe and carry on into 2020. A full-blown trade war will inflict higher prices for US households as US$150 billion on consumer products will be taxed a tariff of 25 per cent.
Secondly, we expect more political turmoil through the Democrats' control of the Lower House, plus the Committee on Oversight and Government Reform potentially spurring multiple investigations on Mr Trump. Media reports suggest at least 15, excluding the ongoing Robert Mueller probe. We are already observing a precursor to potential turmoil. The current government shutdown in the US is on track to be the longest since the 1995-96 shutdown under president Bill Clinton.
Thirdly, we believe the US economy will lose steam in the second half of 2019. US economic growth has stood out in the midst of waning global momentum. US GDP has been boosted by recent tax cuts. According to the Congressional Budget Office, GDP in 2018/19 will be bumped up by a combined 1.1 per cent point. This drops to zero per cent by 2020. We expect this fiscal drag to hurt US growth from the second half of 2019 onwards.
Finally, as the rate-hike cycle from the Federal Reserve is at, or near, its tail-end, Asian-bloc currencies will be rendered more attractive, as interest differentials narrow. For instance, Indonesia and Philippine government bonds trade at yields of 7.8 per cent and 6.6 per cent, respectively vis-à-vis US government bonds at 2.7 per cent.
Another positive influence will be the cyclical uplift and stable foreign reserves for China. This will be supportive for the renminbi and other Asian currencies.
In summary, currency movements depend on the relative economic strength of countries and regions. We think the US dollar will be under pressure against Asian currencies in 2019. A positive outcome on Sino-US trade negotiations will benefit Asia, which is more dependent on global trade.
Other pressure points for the US dollar will be slower domestic growth and political turmoil.
- The writer is head of research at PhillipCapital.
Disclaimer: Chartpoint is provided by Phillip Securities Research for information only, and should not be construed as investment advice.
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