2021 December Outlook for G7 Currencies
2021 December Outlook for G7 Currencies
Dollar Currency Index: Bearish below 96.840
Bullish dollar: The emergence of the omicron variant, as well as the recent underwhelming Nonfarm payroll data, gives strength to the dollar as markets and investors face a general risk-off sentiment. US equities are also facing a general sell-off with major indexes seeing strong dips.
Flattening of the 20Y and 30Y yield curve: The yield curve flattened towards the end of October and the start of November as the 30Y Treasury yield dropped to 1.75% while the 20Y yield curve increased to 1.88%. The yield curve is expected to continue flattening as Federal Chair Reserve transitioned into a hawkish pivot by announcing that they would cut back bond purchases at a faster pace.
Hawkish Fed: Federal Reserve Chairman Jerome Powell said in the month it is time to stop using the word “transitory” to describe inflation and the emergence of the omicron variant poses risks to employment and economic activity. The Federal Reserve decided on 3rd November to begin reducing the pace of net asset purchases by $10 billion for Treasury securities and $5 billion for mortgage-backed securities.
Euro Currency Index: Bullish above 114.30
Bearish Euro: The euro dropped to fresh lows since July 2020 as the emergence of a new variant dragged the currency lower. European stocks also pared losses with DAX closing lower in its worst session since June 2020. The euro is expected to drop even lower due to a dovish ECB, a divergence in views from the Federal Reserve on the monetary policy outlook.
Dovish ECB: European Central Bank President Christine Lagarde held a rather dovish stance that it was rather unlikely for the ECB to hike interest rates in 2022 despite an inflation surge, dashing investors’ expectations of a 10-basis point rate hike this year. The ECB’s stance was a stark contrast to other central banks who are prepared to withdraw their stimulus with signals of earlier rate hikes.
Good economic data: A slew of manufacturing and services PMI data surpassed estimates. Retail sales and employment rates also increase, anchored by strong growth in GDP as well. The ZEW Indicator of Economic Sentiment also rose, hitting the highest since September 2021.
British Pound Currency Index: Bullish bounce at 131.00
Monetary policy stance remains unchanged: Bank of England left monetary policy unchanged and defied market expectations as policymakers have maintained a hawkish tone. UK 10-year bond yield extended losses towards 0.7%.
Sterling weakens to a new low: Sterling pared gains to trade at the lowest level since December 2020 as investors cast doubts on an interest rate hike in the December meeting. FTSE also fell to the lowest level, reflecting poor market sentiments that have been gripping markets since the emergence of the Omicron variant. Sterling is expected to weaken further before a bounce as Prime Minister Boris Johnson announced tougher restrictions against COVID-19 in England due to the rapid spread of the Omicron variant.
Australian Dollar Currency Index: Bearish below 72.00
Dovish RBA: RBA maintained its dovish stance in its latest policy meeting, keeping rates unchanged at a record low of 0.1% while noting that rising inflationary pressures are not as high as compared to other countries. While data showed that the economy is on the path of recovery, there is still some way to go for the labor market, with September’s unemployment rate at 5.2%, a far cry from RBA’s target of 4.5%. Aussie could face headwinds with the ultra-loose monetary policy here to stay, especially as we are seeing a divergence between the central bank and some of its G7 peers, notably the Fed, RBNZ, and BoC.
Falling Commodity prices: The emergence of Omicron and fresh covid-induced restrictions could keep a lid on the market’s risk appetite and soften global demand. Falling commodity prices, especially iron ores and coals which are Australia’s largest exports could hamper the economic growth. The winter steel production cuts to curb carbon emissions in China could also hurt demand for iron ores, a raw material to produce steel.
New Zealand Dollar Currency Index: Bearish below 69.80
Hawkish RBNZ: RBNZ is the first central bank among its G7 peers to raise interest rates for the second time this year, in response to rising inflation as the economy recovers from the pandemic. The central bank also signaled more tightening to come with prospects of higher interest rates, making it an attractive carry trade against the EUR or JPY as both BoJ and ECB kept a firm dovish stance. Strong domestic growth and a tight labor market, with September’s unemployment rate at 3.4%, well below 3.9% estimates are also laying the ground for further hikes ahead.
Uncertain global outlook: Fresh restrictions imposed to tackle the spread of the Omicron variant could hurt the market risk sentiment and limit the commodity currency’s upside. There is also China’s Evergrande snowballing debt crisis which just went into a default recently which could send ripple effects across markets, especially with China being New Zealand’s largest trading partner.
Canadian Dollar Currency Index: Bearish below 79.20
Hawkish BoC: BoC left its monetary policy unchanged but raised prospects of higher interest rates in its latest meeting, in response to rising inflation, strong growth, and a tight labor market. Canada’s unemployment is back to pre-pandemic levels while strong consumer demand continues to aid the economic recovery, with considerable growth in the housing market. While the omicron variant could pose downside risks to the economy, symptoms are relatively mild and less lethal compared to the other mutations and should not derail the economic recovery or delay the rate hikes.
Oil prices: Canada is one of the largest exporters of oil and oil prices have been on an uptrend this year, supported by the global energy crunch and supply bottlenecks. It retreated from its October high after the emergence of the Omicron variant and Evergrande’s default which reinforced fears of softer global demand. Looking ahead, oil prices could see risks to the downside, with weaker demand and increasing supply as OPEC stick to their January output hike of 400,000 barrels per day in January.
Japanese Yen Currency Index: Bearish below 88.70
Bearish Yen: Yen fell to 115 per US Dollar, remaining vulnerable to Omicron variant as well as further policy tightening of the Federal Reserve. Divergent monetary policies continued to weigh on the Japanese currency with hawkish views of the federal reserve coupled with the dovish Bank of Japan, retaining easy monetary policies to achieve a 2% price stability target.
Nikkei traded lower: NIKKEI fell towards the end of November as global equities suffered from the Omicron variant. Japanese stocks look to rebound in the next month after Pfizer and Biotech said that their booster shot provides a high level of protection against the Omicron variant, easing worries of investors.