My Thoughts on USD, JPY & CAD

USD: Less pain, more gain recently, the financial markets have been centered around two main themes: the resilience of the United States and the challenges faced by China. While these factors have varying impacts on different types of assets, in the realm of foreign exchange (FX), they generally converge into one outcome—a stronger Dollar. 

Considering my optimistic stance on US economic activity (notably, economists around the globe have raised their Q3 GDP projections by 1.1 percentage points in the past week), it's unlikely that relief will emerge from the US side. While this could potentially change if the market becomes more confident in the sustainability of low inflation despite robust growth, there's a prevailing skepticism among investors about the durability of this scenario. This sentiment aligns with the insights shared in the minutes from the July meeting of the Federal Reserve. Consequently, it's anticipated that Chair Powell's speech at the upcoming Jackson Hole event will likely deviate from the cautionary tone of the previous year, yet the overall message will likely emphasize the commitment to seeing current economic efforts through. The Federal Reserve's view still suggests that a period of below-average growth is probable, even though this objective has not been realized thus far.

Therefore, any significant decline in the Dollar's value would probably hinge on developments in China and Europe. While a more assertive policy stance might lead to a temporary disruption, as it did nearly a year ago, the most feasible route to a more substantial weakening of the Dollar involves improved economic growth in Europe and Asia alongside ongoing deflationary pressures in the United States. Unfortunately, the path toward achieving this combination is once again narrowing. As we approach the conclusion of 2023, it's evident that the anticipated challengers have yet to present a convincing case for change.EURUSD can showcase the USD strength in the past couple months

Source: Finlogix Charts  JPY: Negative forces the recent combination of elevated US yields and escalating concerns about China's growth has had a notably positive impact on the broader Dollar, as highlighted in the USD section. However, this trend has simultaneously had an adverse effect on the Japanese Yen (JPY). Through my extensive research, I have consistently observed that higher US yields tend to exert downward pressure on the JPY, even during periods of equity market declines. This relationship has been highlighted in various analyses. Furthermore, JPY tends to exhibit a particularly strong positive correlation with the Chinese Yuan (CNH), a pattern that has become increasingly pronounced over the last year…

These sensitivities have propelled the USD/JPY currency pair above the 145 mark, prompting renewed discussions about the potential for intervention to manage risks. Nevertheless, I believe that the market's fixation on currency levels might be overshadowing the more crucial aspect of speed. When the Ministry of Finance (MoF) intervened last year, the Yen had depreciated by nearly 25% against the Dollar in the preceding 12 months. In contrast, the Yen has only depreciated by about 7% over the past year and has generally exhibited narrower trading fluctuations during this period. It's worth noting that successful intervention requires a corresponding shift in policy, and the definition of "success" primarily involves dampening the correlation between the currency and other assets, rather than completely reversing it. This objective has largely been achieved, though periodic "maintenance" interventions may still be necessary.

Furthermore, the Bank of Japan (BoJ) now possesses the flexibility to permit the 10-year Japanese Government Bond (JGB) yield to gradually rise toward 1%. This adjustment is likely to occur before any direct foreign exchange intervention operations take place. From a broader perspective, the current macroeconomic backdrop supports a gradual weakening of the JPY from its current levels. This is driven by the unexpectedly robust performance of the US economy—economists from Goldman Sachs anticipate a 2.2% average growth rate for 2023, surpassing their estimate of its potential—along with the persisting pressures for near-term depreciation of the Chinese Yuan. Unless there's a substantial policy shift by the BoJ, even without a further surge in US yields, the JPY typically experiences depreciation if risk sentiment remains relatively stable. This aligns with the ongoing solid growth of the US economy and persistent disinflationary trends, despite mounting global concerns (although the risk of spillover effects is increasing).

Regarding short-term tactics, while there's potential for a partial reversal of the recent fixed income sell-off that could result in a modest decline in USD/JPY, my projection remains that US interest rates are more likely to remain elevated for an extended period. Considering all these factors, I identify upward potential in my existing USD/JPY forecasts. CAD: Short EUR/CAD on hawkish BoC and solid US growth the recent Canadian Consumer Price Index (CPI) report displayed sustained elevated levels of core inflation, which align with the Bank of Canada's (BoC) preferred metrics. Consequently, the likelihood of a rate hike in September is on the rise. While the market has already factored in a complete rate hike by year-end, there exists potential for the BoC to surprise with more immediate adjustments, particularly if the upcoming June Gross Domestic Product (GDP) report indicates strong performance. Given the robust state of US economic growth, I anticipate that the Canadian Dollar (CAD) could strategically perform well in currency pairings, especially when compared to the Euro (EUR).

Across Europe, growth indicators have remained lacklustre. While the European Central Bank (ECB) might execute one more rate hike, this move could fall short of raising EUR due to the ECB's dependency on economic data. Even though there's a relatively low bar for another ECB hike, the EUR might not experience substantial gains due to the persistently elevated pricing for 1-year forward rates. Given this landscape, I observe an appealing chance to implement a short position on the EUR/CAD currency pair from a tactical standpoint.

My view comes from the expectation that while CAD is poised for relative strength due to sturdy US growth—where my outlook remains more positive than the general consensus—and the BoC's hawkish stance, the Euro could be constrained by its underwhelming prospects in Europe. Although there's a potential risk that global growth sentiment might remain subdued as Chinese economic data continues to underwhelm, CAD is likely to be less affected by the overall global growth landscape compared to other higher-risk G10 currencies, particularly as the US maintains its superior economic performance.

This content may have been written by a third party. ACY makes no representation or warranty and assumes no liability as to the accuracy or completeness of the information provided, nor any loss arising from any investment based on a recommendation, forecast or other information supplied by any third-party. This content is information only, and does not constitute financial, investment or other advice on which you can rely.