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Asian currencies have been in a consolidation mode for most of the year due to the dollar’s dominance as well as the shrinking current accounts for most economies in the region. Asia FX is now likely on the path to recovery, as the US Federal Reserve takes a protracted approach to rate hikes while easing Covid restrictions in China to improve overall investor sentiment.
The Bloomberg JPMorgan Asia Dollar Index (ADXY), a spot index which tracks emerging Asia’s most actively traded currency pairs, has registered gains of as much as 5% in November. On the other hand, the US Dollar Index (DXY) has fallen over 4% as of November 23.
What is the outlook for Asia FX?
The strength in the US dollar has been the primary driver of moves in Asia FX this year, but some other factors such as the energy crunch from the Russian invasion of Ukraine, rising commodity prices and diverse inflationary pressures put Asia FX on the backfoot.
However, the situation seems to be improving after Jerome Powell, chair of the US Fed, after the last monetary policy meeting indicated a contraction in the size of rate hikes. The US Consumer Price Index for October rose 7.7%, a much slower pace than economists’ expectation of an 8% increase and the lowest annual inflation since January.
Global markets are now eyeing the FOMC minutes that will be released on November 23, looking for cues on the next rate hike.
Within Asia, China has taken some drastic steps to support the real estate sector with a 16-point rescue package. Beijing has also scaled back some of the zero-Covid measures, which spurred a rally in currencies in the region, but cases are again rising in China which has dampened the mood.
“Our house view for EUR/USD still sees some near-term dollar strength, and for this reason, we anticipate there still being some more mileage in the weaker Asian FX story. But both the scale and duration of this residual USD-driven leg remain the subject of much debate,” writes Robert Carnell, Regional Head of Research for Asia-Pacific at ING.
Asian markets have fared much better compared to the west. “Over the first eight months of this year, with the Fed actually raising rates and reducing its balance sheet, net outflows from emerging market stock and bond funds amounted to only USD3.3 billion,” said Monish Tahilramani, Global Head of Emerging Markets at HSBC.
The HSBC executive says that Asian economies have learned the lessons from the 1997 financial crisis, and they now have larger foreign exchange reserves, less unhedged foreign currency debt and more open access to their capital markets.
The rebound in Asia FX
Taking cognisance of the fading macroeconomic pressure, Asia FX investors have helped currencies in the region retreat from multi-year lows.
The Chinese yuan, which has shed over 10% of its value against the dollar this year and breached the key threshold of 7, showed some strength in November. After hitting a high of 7.3015 on October 31, the USD/CNY pair retreated to 7.044 on November 15.
The People’s Bank of China has kept interest rates steady despite rising inflation, and ING sees the impact of the real estate crisis waning going into 2023.
The Indian rupee had shed nearly 10% of its value against the dollar in the past 12 months and was trading at 83.013 against the greenback on October 19. The currency strengthened to 80.477 against the USD by November 11 but has since lost some of these gains due to concerns over the year’s final rate hike by the US Fed and rising Covid cases in China.
“One of the factors providing support to the INR during the past year has been the expectation that Indian Government Securities (G-Secs) would be included in one or more of the global bond indices. That expectation got knocked back in early October this year…(but) There is still some scope for inclusion in 2023,” says ING.
The Korean won, which was hovering around a 13-year low against the dollar, strengthened as much as 10% in November. This is a marked improvement as the won was the worst-performing currency in the Asia FX market during the quarter that ended in September.
“We see 3-5% gains in Asian FX against the dollar in 2023, with the Korean won outperforming,” says ING.
The Japanese yen, which had weakened over 30% against the dollar in the past year, was trading at 141.06 on November 23. The yen has been the worst hit among all Asian currencies, but the recent positive investor sentiment helped it strengthen to as much as 138.49.
“Although we anticipate US Dollar strength to continue into early 2023, we see the Japanese currency strengthening over the medium term, and believe the USD/JPY exchange rate could reach 135.00 by Q1-2024,” economists at Wells Fargo said in a note.
In broader Asia, similar trends were seen in the Philippine Peso, Singapore dollar, Thai baht, and the Taiwan dollar, all of which strengthened between 1.8% to 6% in November.
“Inflation already looks to be peaking in some economies and this trend is likely to spread. And while it may mean that policy rates can begin to be cut, the currency-relevant fact will be that negative real policy rates will shrink, and that could allow for some further currency strength,” says ING’s Carnell.
