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Our final Anti Forecast results; plus some thoughts on the Chinese currency (again)

HOW DID YOUR FINAL TWO CALLS END UP? 

Not great, but not a total disaster: one small loser and one small winner…

The US Dollar Index will NOT finish below 100.

MISS! Yep and that’s another miss, with the US Dollar index, DXY, finishing at 98.2. We can console ourselves that the direction was right, rising from 95.5 (first box) to 98.2 (2nd box), we were just too optimistic on the size of the move. This can largely be put down to the large Euro weighting in the DXY index (blue line) and the Euro’s rally in December causing the DXY index to fall back, having breached 100 in late November. A broader trade weighted Index (yellow line) which is a more representative trading basket, is trading at its highs. But we chose it, and so it gets marked down as a loser. It really was one of those half’s…

  • FIGURE 1: US Dollar Indices – DXY (Blue) & Deutsche Bank Trade index (yellow)
Source: Bloomberg, Morphic Asset Management

Source: Bloomberg, Morphic Asset Management

The Australian dollar versus the Euro will NOT finish the half below the current level of 0.67.

HIT! Finishing at 0.671 it was another one that finished line-ball, but this time was on the winning side. Just.  The Australian Dollar took much longer to find a floor than we had expected back in July, this is despite Australia’s central bank moving away from an easing bias and Europe moving to more Quantitative Easing (announced in December), with the trade only just surviving the rally in the Euro in December discussed above in the earlier call.

  • FIGURE 2: AUD EUR Exchange rate
Source: Bloomberg, Morphic Asset Management

Source: Bloomberg, Morphic Asset Management

Two out of five does not make for that pretty reading. Let’s hope that some of new ones below fare better in 2016! These will be released in our half yearly later this month.

 

AND YOU WANT TO TALK ABOUT CHINA...AGAIN? 

Yes, we realize we blogged about China before Christmas, with what look like currently rose tinted glasses, given the falls this week in the market. Though some perspective here: everything in China is big including their market moves. In the last 6 months of 2015 alone, their market fell by at least 5% on 22 occasions. Given there are only 120 trading days in a half, this works out at a 5% down move every week and a bit! So whilst these moves would be shocking for the Australian equity market, it seems it’s all in a week’s work in Shanghai.

No, the more interesting thing is the Chinese currency weakness. We first blogged about this back in August 2015. The blog contains many of the background views on why they were doing it and what may come next, but what we learnt in the period since then was essentially the implementation was a policy mistake at the beginning. They had thought the US would raise rates in September and were looking to move to a more flexible exchange rate ahead of this. The large move backfired and they ended up spending a lot of FX reserves on intervention trying to stabilize it and bring markets back round to their views. This stabilization was doubly important as they had the IMF review of the SDR “reserve currency” weightings coming up which they wanted to be included in. With these completed in November (second yellow box) and the Renminbi included, they have resumed moves to a more flexible exchange rate…which conveniently is depreciating (a weaker currency should help GDP growth and it’s convenient as they are letting market forces do the work)

The Renminbi has weakened 5% since August (we discussed 10% back in August) and has been doing it in almost straight line since November. Having just unpegged from the strongest currency in the world, namely the USD, the FX market is feeling out a new fair value.  So where is fair value? Having appreciated some 40%+ against the EUR and Japanese Yen over the last 5 years the RMB could go a long way yet. We see it moving to at least 7.00 in the next 6 months (from 6.50 currently), which should help them internally adjust.

The risks for them is the market “front runs” their moves and sees this as a one way trade, so at some stage they will probably try more of what they did last week, intervening and trying to move it the other way to stop people from profiting from this easily, but the evidence from last week’s intervention was that it was short lived and they have resumed daily moves upwards, but this is a risk in the coming months.

On the side given the importance of the Renminbi in global trade this depreciation is adding to anxiety for Asian equity markets within which companies will become less competitive if this continues and also for fears of global deflation being exported by them.

  • FIGURE 3: Chinese Renminbi Exchange rate (RMB)

Source: Bloomberg, Morphic Asset Management

Source: Bloomberg, Morphic Asset Management