The foreign exchange market closes a week of intense volatility, which has left for history the moment of the fall of the euro to a 20-year low against the dollar and, more importantly, that it has left the single currency facing parity with its US counterpart. The pound has not had a better time and has yielded to price levels not seen since the pandemic against the ‘greenback’. The fear of a recession has settled in the minds of the operators, due to the persistently high inflation and the deterioration of some economic indicators, and this translates, in the end, into a strong dollar.
This situation represents a change from the trend of previous months in which currencies have traded largely in line with the fight of central banks against inflation, thus reflecting the sharp swings in relative returns. However, with June’s macroeconomic data surprising predominantly to the downside, «markets have shifted their focus to the growing risk of a global recession,» says Claudio Wewel, FX strategist at J. Safra Sarasin SAM. “We hope that the global growth slows furtherthe dollar should remain strong for a longer time”, he adds.
“Perhaps we are facing some exaggerated fears; however, what is real is the effect that this sentiment has on the markets,” says Itsaso Apezteguia, an analyst at Ebury. And the risk-off environment prevailing in the markets, due to the factors mentioned above, has hurt the euro”. The European currency has lost more than 9% so far this year and has practically reached the 1:1 exchange rate with the dollar.
In addition to risk aversion and the general strength of the dollar, the safe haven asset par excellence, the lack of specificity from the European Central Bank (ECB) and the lack of haste to raise rates have hurt the currency. The minutes of the June meeting of the Governing Council of the monetary supervisor certify that the ECB does not see the rush to raise rates as a priority nor in undertaking increases greater than 25 basic points in June, a fact that will change the inflationary dynamics.
Besides, the concern about an energy crisis in Europe has increased in recent daysand could pose a threat to the eurozone economy, which adds additional pressure to the common currency», adds Apezteguia, Meanwhile, the dollar continues to benefit from its status as a refuge currency and the aggressiveness of the Federal Reserve, which tries to deal with high inflation by aggressively raising interest rates.
Recessions also weigh disproportionately on the consumption of durable goods, putting economies with a large weight of the manufacturing sector at a relative disadvantage. “Consequently, we have lowered our year-end target for the euro/dollar pair to $1.05,” says Wewel. «The increasing likelihood that gas flows from Russia will be limited during the second half of the year constitutes a significant downside risk to our forecasts,» he emphasizes.
THE POUND WILL CONTINUE TO BE WEIGHTED BY POLITICAL UNCERTAINTY
The outlook for the British pound is similarly subdued. The Political uncertainties are a drag on the British currency and despite a slight relief rally following this week’s news of British Prime Minister Boris Johnson’s resignation, «headwinds stemming from current economic fundamentals (pronounced stagflation and a less aggressive Bank of England than many others) are more dominant”, point out the Julius Baer experts.
«We do not believe that politics is an important support for the pound,» they say. “The pronounced stagflation environment (with inflation forecast to rise above 10% year-on-year and a marked slowdown in economic growth, including a contraction in the second quarter), which is likely to cause The Bank of England raises interest rates with less intensity and to a lesser extent than its counterparts, it is a much more dominant engine”, they say.
In other currencies, the J. Safra Sarasin SAM expert is shown bullish on swiss franc and believes that «it should continue to benefit from its advantage in terms of inflation, which will continue well into next year.» The Swiss National Bank (SNB) is likely to allow its currency to appreciate further as it no longer considers the franc «highly valued». “The recent dynamics of bank demand deposits suggest that the SNB has not intervened in favor of its currency in recent weeks, therefore, we think that, for the rest of the year, the euro/Swiss franc pair should trading mostly below parity”, he predicts.
Also is positive with the Japanese yen, “which is historically cheap according to multiple parameters”. There are several factors that could reverse the yen’s weakening trend, such as a possible adjustment of the Bank of Japan’s yield target or a somewhat smaller yield advantage in the US”, Wewel rounds off.