161123 g3 fx outlook

G3 FX Outlook

Group Economics Macro & Financial Markets Research

23 November 2016

Trump gives the dollar wings Georgette Boele Co-ordinator FX & Precious Metals Strategy Tel: +31 20 629 7789

 The Trump victory has triggered a surge in the dollar  We now expect the dollar rally to continue for some time…  …reflecting a stronger US economic outlook and a faster pace of rate hikes

georgette.boele@nl.abnamro.com Roy Teo

 EUR/USD break through parity, also fuelled by European political risk

Senior FX Strategist

 USD/JPY will likely move towards 115 but should meet resistance there

Tel: +65 6597 8616

 EM FX will likely weaken on capital outflows triggered by rising US

roy.teo@sg.abnamro.com

yields…  … but in most cases we don’t expect weakening beyond their 2015 lows  

Positioning for more US growth and inflation as well as European political risk Financial markets appear to be positioning for more US economic growth and inflation following Mr Trump’s victory in the US presidential elections as well as the Republican clean sweep in Congress. This reflects the combination of likely sizeable fiscal stimulus and pro-business policies. At the same time, investors appear to be sanguine about the possibility of increased protectionism and geopolitical risk, perhaps believing that ultimately the election rhetoric will not translate into policy choices. Finally, markets have built in more European political risk, reflecting the view that the forces of populism may also be stronger on this side of the Atlantic.

Trump victory has given the dollar wings Since the US presidential elections the US dollar has firmed against most currencies.

While it has risen by more than 5% against the yen and 3.5% against the euro, the sharpest moves have been against a number of vulnerable emerging market currencies.

For instance, the US dollar is up by 10% against the Mexican peso and around 7% versus the Brazilian Real and South African Rand. This reflects the combination of higher US growth expectations, higher US equities and higher US Treasury yields, as well as capital outflows from EM due to the unwinding of carry trades.

Parallels with the Reagan era President-elect Trump’s program has similarities with that of Ronald Reagan in the 1980s.

President Reagan was able to boost America’s self-esteem; his policies gave a strong boost to US growth during his first term and restrictive monetary policy kept inflation in

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G3 FX Outlook - Trump gives the dollar wings - 23 November 2016

check. This resulted in a substantial rally of US dollar (+43%) in his first term. However, a key difference is we expect the period of strong US economic growth to be more shortlived compared to the Reagan era so the dollar rally would likely be of shorter duration.

Another up leg in the dollar…

We have upgraded our forecasts for the US dollar based on early views about the impact of Mr Trump’s economic agenda. We now expect a substantial pick-up in US growth and inflation to above-trend rates. In addition, we expect the Fed to hike rates more aggressively than anticipated by financial markets in order to dampen inflation expectations and actual inflation over the medium term. We expect six rate hikes over the next two years, compared to the just over four currently priced in by futures markets.

This combination of strong US growth – which will also be above inflation in 2017 - , wider yield spreads and a rise (less negative) in US real yields (official rates minus inflation) is bullish for the US dollar. Therefore, we now expect that the US dollar rally has another leg upwards. It is likely that this move will run out of steam once financial markets have anticipated the strong pickup in growth and more monetary policy tightening. In addition, the move could start to unwind in 2018 when yield spreads start to narrow, US growth starts to slow and expectations start to surface that the Fed will pause its rate hike cycle.

… until the moment that growth and the Fed policies are anticipated In the coming year (in line with our projection of US growth, US inflation and yield spreads) we expect the US dollar to rally across the board but the size of the move will likely be larger versus emerging market currencies because of the sharp pick-up in US Treasury yields. We expect the EUR/USD to break through parity also fueled by rising European political risk and an extension of ECB QE. However, a soon as expectations of ECB taper (which we expect from March 2018) start to build in the market at the turn of 2017-2018, this will likely lead to a recovery in EUR/USD. JPY highly sensitive to real interest rate differentials with the US We expect the underperformance of the Japanese yen against the US dollar to persist in 2017 as real interest rate differentials between the US and Japan rise in favour of the US dollar. An unwinding of speculative long yen positions is also expected to fuel further weakness in the yen. However, we expect domestic exporters and life insurers to increase their hedging activities towards 115-120 against the US dollar. Furthermore, it is likely that by the end of 2017, market speculation of tapering by the BoJ will provide some support to the yen.

Our forecasts can be found on the tables in the next page

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G3 FX Outlook - Trump gives the dollar wings - 23 November 2016

ABN AMRO major currency forecasts Changes in red/bold

EUR/USD USD/JPY EUR/JPY GBP/USD EUR/GBP USD/CHF EUR/CHF AUD/USD EUR/AUD NZD/USD EUR/NZD USD/CAD EUR/CAD USD/SEK EUR/SEK EUR/NOK USD/NOK EUR/DKK

22-Nov 1.0633 110.78 117.79 1.2486 0.8516 1.0095 1.0734 0.7395 1.4379 0.7068 1.5043 1.3394 1.4242 9.2094 9.7926 9.0600 8.5205 7.4406

Q4 2016 1.07 109 117 1.25 0.86 1.01 1.08 0.74 1.45 0.70 1.53 1.35 1.44 9.11 9.75 9.25 8.64 7.46

Q1 2017 1.05 110 116 1.24 0.85 1.03 1.08 0.73 1.44 0.69 1.52 1.37 1.44 9.29 9.75 9.00 8.57 7.46

Q2 2017 0.95 110 105 1.23 0.77 1.15 1.09 0.72 1.32 0.68 1.40 1.39 1.32 10.21 9.70 9.00 9.47 7.46

Q3 2017 0.95 112 106 1.22 0.78 1.16 1.10 0.71 1.34 0.67 1.42 1.42 1.35 10.11 9.60 8.75 9.21 7.46

Q4 2017 0.95 115 109 1.20 0.79 1.17 1.11 0.71 1.34 0.66 1.40 1.44 1.37 10.00 9.50 8.50 8.95 7.46

Q1 2018 1.00 115 115 1.22 0.82 1.12 1.12 0.70 1.43 0.65 1.54 1.45 1.45 9.25 9.25 8.50 8.50 7.46

Q2 2018 1.03 113 116 1.24 0.83 1.10 1.13 0.70 1.47 0.65 1.58 1.45 1.49 8.74 9.00 8.25 8.01 7.46

Q3 2018 1.06 112 119 1.28 0.83 1.08 1.14 0.73 1.45 0.68 1.56 1.43 1.52 8.49 9.00 8.25 7.78 7.46

Q4 2018 1.10 110 121 1.30 0.85 1.05 1.15 0.77 1.43 0.72 1.53 1.40 1.54 7.95 8.75 8.00 7.27 7.46

Q3 2017 7.10 7.13 70.0 1,210 1.49 36.50 32.70 13,800 66.00 3.45 15.00 4.30 27.00 300.00 3.60 19.50 690.00

Q4 2017 7.15 7.15 70.5 1,220 1.50 36.80 33.00 13,900 67.00 3.50 15.25 4.30 26.50 300.00 3.70 19.00 700.00

Q1 2018 7.18 7.20 71.0 1,230 1.52 37.00 33.20 14,000 67.00 3.50 15.00 4.30 26.50 300.00 3.70 19.00 700.00

Q2 2018 7.18 7.20 70.0 1,220 1.50 36.50 33.00 13,900 66.00 3.30 14.75 4.30 26.50 300.00 3.60 18.75 680.00

Q3 2018 7.15 7.15 69.0 1,200 1.45 36.00 32.50 13,700 65.00 3.20 14.50 4.25 26.00 300.00 3.40 18.50 660.00

Q4 2018 7.10 7.10 68.5 1180 1.43 35.60 32.00 13500 65 3.20 14.00 4.25 26.00 300 3.20 18.00 650.00

Source: ABN AMRO Group Economics

ABN AMRO emerging market currency forecasts Changes in bold/red

USD/CNY (onshore) USD/CNH (offshore) USD/INR USD/KRW USD/SGD USD/THB USD/TWD USD/IDR USD/RUB USD/TRY USD/ZAR EUR/PLN EUR/CZK EUR/HUF USD/BRL USD/MXN USD/CLP

22-Nov 6.89 6.91 68.2 1,176 1.42 35.46 31.90 13,420 63.68 3.37 14.11 4.42 27.05 308.35 3.35 20.36 674

Q4 2016 6.90 6.93 68.5 1,180 1.43 35.60 32.00 13,500 64.00 3.30 14.30 4.45 27.10 310.00 3.40 20.25 675.00

Source: ABN AMRO Group Economics

Q1 2017 6.95 7.00 69.0 1,190 1.45 35.70 32.20 13,600 65.00 3.35 14.50 4.40 27.10 310.00 3.45 20.00 680.00

Q2 2017 7.05 7.10 69.5 1,200 1.47 36.00 32.50 13,700 66.00 3.40 14.75 4.35 27.10 305.00 3.50 19.50 690.00

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G3 FX Outlook - Trump gives the dollar wings - 23 November 2016

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