Foreign exchange risk management will be high up on the agenda of companies with exposure to multiple currencies again this year following on from a tumultuous 2015.
In our Quick Currency Forecast For Companies we take you through the main currencies of the world, looking at what we predict for the year ahead in pound sterling; euro; US dollar; Chinese renminbi; and the Japanese yen.
Additionally, we cast an eye over the main commodity currencies, including the Australian dollar, as well as analyse the macro economic outlook for the globe in 2016.
What Currency Volatility Should Your Company Be Wary Of In 2016?
The Eurozone and Asia are the two epicentres of the global currency fracas in 2016 as global trade growth remains weak, capital expenditure remains muted and surplus remains in commodity markets.
The European Central Bank (ECB) disappointed more dovish market expectations (including our own) with its early December package of policy easing measures.
But we think the discussion about more negative euro zone policy rates and more use of unconventional policy easing tools will resume in Q1 2016. Indeed, we now expect a further 40 basis points of deposit rate cuts, a further increase of €40 billion in the QE programme and an even more open ended QE programme to be forthcoming during 2016.
For quite some time, we have cited policy divergence as a durable, powerful directional driver of major currencies. As the US Federal Reserve raises policy rates and as the European Central Bank (ECB) proceeds (we think) with more easing, we forecast EUR/USD to breach parity and to fall to 0.96 levels in our Currency Forecast 2016.
The US Federal Reserve (Fed) is likely to proceed only very cautiously.
However we anticipate that the Fed will raise its target rate by another 100 basis points in aggregate in 2016, in line with the median end 2016 Fed target.
That is well above the amount of tightening that markets are discounting coming into 2016.
Currency Forecast 2016 For The Pound Sterling (GBP)
We see sterling as structurally vulnerable this year as EU referendum noise builds. Surface-wise, most striking about sterling in 2016 may be that it spends much/most of the year at a level sub (and quite far sub) 1.50 against the globally strong USD.
Typically, treasury departments of large corporations regard the GBP/USD currency pair as a ‘buy’ below 1.50 and a ‘sell’ above 1.70.
Faith in the lower end of that range may be shaken hard this year. Through early 2016, markets may price Bank of England as being a little bit more like the (slowly tightening) US Fed and a little bit less like the (still easing) ECB.
On this basis, GBP could perform relatively strongly against EUR even as it weakens against the USD.
As the year progresses, however, we expect some more corrective pressure on sterling’s trade weighted exchange rate with markets sensitive to any rise in support for the “Leave” side of the EU referendum debate. With no referendum date yet set, Eiger’s view is that this referendum is already too close to call.
Expect A Weak Chinese Renminbi (Yuan) In 2016
Over recent years, Japan has collapsed the yen and the euro zone has weakened the euro. Throughout that period China has managed the renminbi quite tightly relative to the strong US dollar. As a result, China’s real effective exchange rate has risen rapidly and the country’s competitiveness loss is acute.
As China’s growth now slows, this looks inappropriate and we think that the renminbi will weaken steadily in 2016. As the currency depreciates, capital flight accelerates and reserves fall faster.
With the renminbi’s inclusion in the IMF’s currency basket secured for next year, China can now focus on managing the pace of necessary RMB depreciation.
The late 2015 move away from managing the currency against the US dollar in favour of a broader basket of currencies seems entirely consistent with this.
Strengthening Japanese Yen
The Japanese yen should strengthen on Asian and European crosses this year as Bank of Japan, unable to buy ever more Japanese Government Bonds, concedes currency war leadership. Japan still faces its own acute challenges in terms of raising inflation to Bank of Japan target.
Still, we think the debate in Japan about the diminishing benefits of faster quantitative easing (QE) relative to the costs has shifted more decisively against any faster QE. Also helping the yen is our view that, for the first time in several years, global equity markets look vulnerable.
Throughout the global QE years, abundant macro liquidity has been looking for a market home and has floated all asset class boats. For years, it hasn’t been a question of buying bonds or equities, but rather of buying bonds and equities.
The Macro View Of The Global Economy & Commodity Currencies
We think that the macro liquidity story has now turned meaningfully, partly as the Federal Reserve in the States raises policy rates but also as foreign exchange reserves globally decline. This decline is led by China (capital flight) and by Russia and Middle Eastern oil exporters (huge negative terms of trade shock).
Falling global FX reserves is another way of saying the peak in recycling of the global surplus savings glut back to global capital markets has passed. We think equity and corporate credit markets are vulnerable as a result.
Oil-wise we think the global oil supply glut will continue to build as Saudi Arabia pursues a global brinkmanship strategy towards over-supply. This will come about as OPEC has effectively collapsed as a price supporting cartel, as Iran cranks up exports with the lifting of sanctions and as China-led global demand stays weak.
Eiger’s view is that oil prices can fall to $26 in 2016 and perhaps lower. If so, then the most energy dependent currencies like NOK, CAD, RUB, MXN, MYR will probably fall further this year.
For commodity currencies more broadly, we anticipate further declines. We’re particularly negative still towards the Australian dollar. The AUD is the most expensive currency we look at in terms of long term drivers.
Yes, it’s fallen quite far already but only enough to take the AUD from very expensive to less expensive. In our view it needs to be cheap. Also, we are sceptical about how easily Australia can transform itself from commodity-investment led to consumption-led growth as China slows.
Household debt in Australia looks very high. In short we think AUD/USD could fall to 0.60 levels in 2016.
Photo 1 by Images Money
Photo 2 by Daniela Hartmann