Fixed Income Outlook  |  Q1 2020

Currency views

Fixed Income Team

Currency views

The dollar likely to be range bound

The dollar's support from its high-yielding status is wavering. The Fed cut rates three times in 2019 and continues to inject liquidity in the very front end of the Treasury yield curve due to funding pressures in the repo market putting downward pressure on the dollar. To see more broad-based U.S. dollar weakness from here, growth in the rest of the world needs to rebound substantially rather than stabilize at soft levels. That is not something we expect. Trade tensions with China create downside economic risks, and major breakthroughs are unlikely ahead of the U.S. elections. So, the dollar is likely to continue to weaken as global growth stabilizes. However, U.S. outperformance and risks to global growth should provide a limit and ultimately keep the dollar range bound.

Euro's highs and lows likely capped

The outlook for the euro remains dominated by monetary policy and growth. The ECB looks to be on hold for the foreseeable future as its president, Christine Lagarde, tries to gain consensus across the governing council and to push for higher fiscal spending. The mandate is on keeping an accommodative policy stance until inflation reaches the ECB's target. That means that interest rates will remain at historic lows and asset purchases will continue for as long as necessary. The eurozone remains reliant on a pickup in global growth. The euro will retain its role as a funding currency and will likely lag other currencies. But there are limits to how low, and how high, the single currency can go.

Higher spending could boost pound

In the United Kingdom, Prime Minister Boris Johnson led the Conservative Party to win an overall majority in the general elections. Sterling continued its run as investors expected this victory to allow passage of the Brexit withdrawal agreement and a more orderly transition period. However, Johnson surprised markets by saying that Britain has no intention of seeking an extension to the transition period beyond December 2020 after it leaves the EU. This has created another "no deal" Brexit risk and has increased the risk premium to hold the currency and U.K. assets. Given the size of the Conservative majority, Parliament can easily reverse this by amending the law. In the near term, the deadline is likely to remain part of the U.K.'s negotiating stance with the EU. The Conservative Party's manifesto calls for higher fiscal spending; that in turn could support economic growth and the sterling.

Japan's yen and fiscal stimulus

The Bank of Japan (BoJ) kept its monetary policy unchanged at the December meeting. Governor Haruhiko Kuroda offered a slightly more upbeat view on recent developments, including the U.S.–China trade truce. But the BoJ reassured markets that it stands ready to ramp up stimulus if overseas risks derail a fragile economic recovery. On the fiscal front, Prime Minister Shinzo Abe launched a ¥26 trillion fiscal stimulus package to support slowing growth and to help Japan "maintain or enhance economic viability" after the 2020 Olympics. About ¥9.2 trillion of it is fresh spending. The yen's moves will be subject to the outlook for global growth and risk appetite.

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