Currencies | Jul 20 2011
– US dollar seeing some support
– Canadian dollar to range against greenback
– Euro weakness not yet finished
– Aussie dollar, yen to end year weaker against US dollar
By Chris Shaw
With currency markets delivering significant volatility in recent weeks CIBC World Markets has updated its foreign exchange views. The update starts with the US dollar, CIBC noting despite diminishing business sentiment, sliding retail sales and a weak June jobs number, the US dollar trade-weighted index continues to hold up.
This reflects an even more unstable outlook for the Eurozone, CIBC expecting the euro will remain under pressure thanks to the combined threat of a Greek debt default and indicators constrictive monetary and fiscal policies are weighing on growth in ex-core regions.
While softer US data and more dovish Fed minutes in June lifted speculation of a further easing in policy, CIBC takes the view the bar for QE3 is quite high. This limits the chances of any policy induced slide in the US dollar.
There is also little risk to the currency from the US defaulting on its debt according to CIBC, as the debt ceiling has been raised 10 times in the past 10 years. A bill to raise the debt ceiling was passed overnight and as the bill was tied to deep spending cuts this should limit the risk of any ratings downgrade notes CIBC.
For the Canadian dollar, CIBC sees the coming quarter as likely to generate an increase in short-term rate differentials relative to the US. This is because a likely October rate hike in Canada is not yet fully priced into the market.
Also supportive for the loonie in CIBC's view is the fact forward looking growth indicators such as the Bank of Canada's Business Outlook Survey suggest stronger growth can be expected in the second half of this year.
While the Canadian dollar should be well supported it may not enjoy a lot of further upside, CIBC arguing the lack of momentum in global growth is likely to temper enthusiasm for cyclical commodities.
As well, while the Canadian central bank may increase interest rates the hiking cycle should be a mild one, as CIBC notes there are concerns over the competitive challenge of a stronger Canadian dollar. As well, the Canadians are considered less likely to continue to lift rates in the absence of any rate hikes in the US.
CIBC expects three one-quarter percent rate hikes in Canada in coming months, which it suggests will see the Canadian dollar trade in a range of 0.94-0.99 against the US dollar through 2012.
For the euro, CIBC's view is the sell-off has not yet fully run its course. The reason is ongoing uncertainties with respect to what if any deal may emerge in response to a potential Greek rescue package.
While the European Central Bank recently raised rates again and has hinted at further monetary tightening measures, CIBC suggests this would produce a double hit to aggregate demand given the fiscal restraint already in evidence.
The reality of weak growth, fiscal austerity and higher borrowing costs in more fragile economies in the EU should see the ECB turn more dovish by year's end. CIBC is forecasting a euro-US dollar rate of 1.34 by that time.
The rally in the yen over the past month is the result of safe haven buying more than offsetting a deteriorating current account balance. Looking forward, the threat of official intervention to prevent any disorderly yen movements should put a damper on further capital inflows in the view of CIBC.
What should also limit the yen is the Japanese economic recovery remains fragile, while CIBC also sees scope for increasing direct investment abroad to work against the Japanese currency. CIBC is forecasting a year-end rate of 85 against the US dollar.
Interest rate differentials had been a major support factor for the Australian dollar against the greenback, while CIBC notes rising commodity prices and M&A flows also helped sustain the currency.
But further rate hikes now look less likely given a more dovish Reserve Bank of Australia outlook. This is the result of a slowing in employment growth, softening house prices and weakening household credit accumulation.
As the run up in the Aussie dollar was associated with strengthening non-commercial sentiment the dollar is now more vulnerable to any sentiment induced pullback from recent highs. CIBC suggests this is especially the case given China continues to tighten policy and as signs point to a further deceleration in the Australian economy. CIBC forecasts a year end rate against the US dollar of 0.97.
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