Currency Market Analysis

Aug 31, 2020 | Currency Market Analysis

Global Themes

The promise of sustained key interest rates and the steady recovery of the global economy are driving the global stock markets up for the fifth month in a row. The brief, more than thirty percent fall in the world's leading equity index (iShares MSCI World) has been completely offset by the stock market rally since April.

Divergence persists despite the new all-time highs. Mainly due to the relatively weak recovery of the consumer, who especially in the United States has a historically strong relationship with the movements of the stock exchanges. Since the beginning of the 21st century, there has never been such a large difference between the US consumer confidence index and the positioning of the US benchmark index S&P500. In order to create a new equilibrium, either a significant strengthening of the real economy or a correction on the stock exchanges is required. The actual scenario will be significantly influenced by the US presidential election and advances in vaccine research.

In the meantime, an era is coming to an end with the health-related announcement of the resignation of the Japanese Prime Minister Shinzō Abe. The departure of the liberal democratic politician, who caused a sensation in 2012 with his economic 3-pillar strategy (loose monetary policy, credit-financed economic stimulus packages, deregulation), remains without an immediate successor. A new national election is not planned until next October. In Germany, Chancellor Angela Merkel warns of worsening health on the European continent. Especially with the slow end of the summer months, the second wave of infections remains a risk to be considered. In terms of data, the high point of the week will be the release of the US labor market report on Friday. Economists seem to expect jobs to grow by 1.4 million in August, after 1.8 million jobs were created in July.

USD

The result of the US Federal Reserve's months-long policy assessment, which has resulted in a new modified inflation target, seems to favor of emerging-market currencies. The implicit confirmation of a sustainably low interest rate environment in the world's largest economy has left investors happy for the time being. However, apart from the willingness to raise the inflation target above the known 2% mark, there does not appear to be any concrete information on the new strategy or the instruments by which the Fed could achieve this target.

The Federal Reserve's otherwise precise choice of words left many questions unanswered on Thursday, and are unlikely to be answered until the next interest rate decision. This means the US dollar remains tainted by a negative trend. However, the high speculative positions in the market currently increases the likelihood of a rapid change of trend, which could be ignited in the short term by political catalysts.

EUR

EUR/USD was again able to fight its way above the level of 1.19 and recorded its fourth monthly appreciation as a result. However, the real test of upward strength could come near the barrier of 1.20, a level that defines the longer 12-year downward trend of the currency pair. Meanwhile, economic indicators point to a flattening of the recent recovery in the European domestic economy. The sentiment indicator published by the European Commission rose by 5.2 points to 87.7. However, German consumer confidence fell in September to -1.8.

With the recent appreciation of the single currency, the question of what negative implications the stronger currency could have on the European export sector and the stock market is coming to the fore. Especially in the recovery period after a crisis, the appreciation of the euro seems to act as a "de facto" tightening of monetary policy, which could put pressure on exporting companies. There are still no signs of a negative effect, as macroeconomic factors play an overriding role. At some exchange rate, however, European monetary authorities will have to think about it.


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