G10 fx weekly 27 august 2015

G10 FX Weekly Euro safe-haven?

Group Economics Macro & Financial Markets Research Georgette Boele, tel,+31 20 6297789

27 August 2015 • • • •

The euro as safe haven currency? No it’s a funding currency The US dollar is still a safe-haven currency with a cyclical touch… …while the yen is a safe-haven and funding currency We have made some adjustments to our near-term forecasts

Euro as safe-haven currency?

Second, the US dollar has had some cyclical weakness. When

This week the euro strengthened sharply against the US dollar

US inflation came in below-expectations and FOMC minutes

during the turmoil on equity markets on so-called Black

were seen as more dovish investor sentiment sharply scaled

Monday. This triggered reports that the euro is now a safe-

back expectations about Fed rate hikes this year. As a result

haven currency. We disagree with this interpretation. Below we

the US dollar fell versus the euro.

explain why.

In short, the reason for the EUR/USD rise on Monday was a What are safe haven currencies?

cut back of positions (unwinding of carry trades) combined with

Safe-haven currencies are currencies that investors flea to

cyclical US dollar weakness. In our opinion, safe haven

when they are concerned about a very negative development

demand has not been behind the surge in EUR/USD.

in financial markets. Therefore, these currencies have a strong tendency to rally when investor sentiment deteriorates (for

Is the US dollar still a safe-haven currency?

example on higher equity volatility and Emerging market CDS

We judge that the US dollar is still a safe-haven currency but

spreads). In addition, they have a strong negative relationship

the US dollar’s character is versatile and can shift to being

with 10y US Treasury yields. US Treasury bond yields in

more cyclical in certain periods. The US has the deepest

general drop in case of risk aversion. Moreover, they tend to

financial markets and the US dollar is the most liquid currency.

rally when domestic stock markets tank. They tend to be

In addition, it is the number one currency in foreign exchanges

widely traded. They have a high share in international currency

reserves. It was the ultimate safe-haven currency at the height

reserves. Furthermore, these are currencies of countries that

of crises where the global financial system is being questioned,

have deep and liquid financial markets.

like it the 2008 global liquidity crisis. Its behaviour in relation to other financial markets is less clear than that of the Japanese

Is the euro a safe-haven currency? No it’s a funding currency

yen. The dollar’s character is more versatile. It can also

Has the euro risen because of safe-haven flows? We don’t think

behave like a cyclical currency and react on Fed rate hike

so. The EUR/USD has risen for two reasons. First for some time

expectations and the strength of the economy as we have

now, financial markets were short the euro and long US dollar

seen now for quite some time.

because of monetary policy divergence. Investors had set up carry trades with the euro as the funding currency. In general,

Japanese yen is a safe-haven and funding currency…

in periods of positive investor sentiment, investors build up

Currently the Japanese yen is the ultimate safe-haven

positions that lock in interest rate spreads. For example they

currency in terms of behaviour. It has a strong positive

short a currency with low official rates and of countries with

relationship with equity volatility, and strong negative

central banks that are no-way close to tightening monetary

relationships with Nikkei and 10y US Treasury yield (see graph

policy. On the other hand, they search for currencies that pay a

below). What is more, the yen is a liquid currency and

higher interest rate. The choice of funding or carry currency

Japanese financial markets are deep. In addition, the yen is

depends to a high extent on the behaviour of its central bank,

also a funding currency because the monetary policy by the

the trend in a currency and the currency volatility. If this

Bank of Japan. During the recent market rout, the yen was the

combination is not attractive there is a lower tendency to set up

clear outperformer. This outperformance was mainly due to the

carry trades. When investor sentiment deteriorates the

closing of yen short positions. However, its safe-haven status

opposite happens. Therefore, the euro rallied versus the US

has also given support.

dollar because some of these short positions were closed.

2

G10 FX Weekly - Euro safe-haven?

JPY TWI versus risk indicators

Adjustments in near-term forecasts The recent market rout has resulted in an adjustment in our

90-day rolling correlation

near-term currency forecasts (September). Although our base

1.0

case is for a Fed September rate hike, the risk has increased significantly that the Fed delays further. Even if US economic

0.5

data continue to be strong and the Fed would hike interest rates in September, parity in EUR/USD will unlikely be reached

0.0

in September. Therefore, we have made some adjustments.

-0.5

The risk has also increased that the ECB may step up QE. However, we will expect to see parity in EUR/USD if investor

-1.0 07

08

09

JPY vs Nikkei

10

11

12

JPY vs VIX

13

14

15

JPY vs 10y US

sentiment improves, US data come in strong as we expect and monetary policy divergence is on again. As a result, we keep our parity call for December.

Source: Bloomberg, ABN AMRO Group Economics

ABN AMRO major currency forecasts In the future, the character of the yen could change. For example if the Bank of Japan were to start a more aggressive tightening cycle than other major central banks (now unthinkable), the yen will likely more behave as the US dollar currently behaves. This is because it would because a safehaven currency with a cyclical touch instead of a safe-haven and a funding currency. In such an environment, the yen would weaken in environments of modest risk aversion and strengthen if investor sentiment improves or if there is a global full-blown across markets panic.

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

27-Aug Q3 2015 Q4 2015 1.1334 1.00 1.05 120.18 125 128 135.98 131 128 1.5482 1.49 1.48 0.7298 0.67 0.71 0.9537 1.10 1.04 1.0774 1.09 1.10 0.7110 0.72 0.70 0.6442 0.65 0.63 1.3222 1.34 1.36 9.5675 9.50 9.50 9.4099 9.25 9.00 7.4633 7.46 7.46

Source: ABN AMRO Group Economics

Q1 2016 1.05 130 137 1.52 0.69 1.05 1.10 0.69 0.62 1.38 9.50 8.50 7.46

Q2 2016 1.05 135 142 1.50 0.70 1.07 1.12 0.67 0.60 1.41 9.50 8.25 7.46

Q3 2016 1.10 135 149 1.51 0.73 1.04 1.14 0.65 0.59 1.43 9.50 8.00 7.46

Q4 2016 1.15 135 155 1.51 0.76 1.00 1.15 0.64 0.58 1.45 9.50 8.00 7.46

3

G10 FX Weekly - Euro safe-haven?

Find out more about Group Economics at:https://insights.abnamro.nl/en/ This document has been prepared by ABN AMRO. It is solely intended to provide financial and general information on economics. The information in this document is strictly proprietary and is being supplied to you solely for your information. It may not (in whole or in part) be reproduced, distributed or passed to a third party or used for any other purposes than stated above. This document is informative in nature and does not constitute an offer of securities to the public, nor a solicitation to make such an offer.

No reliance may be placed for any purposes whatsoever on the information, opinions, forecasts and assumptions contained in the document or on its completeness, accuracy or fairness. No representation or warranty, express or implied, is given by or on behalf of ABN AMRO, or any of its directors, officers, agents, affiliates, group companies, or employees as to the accuracy or completeness of the information contained in this document and no liability is accepted for any loss, arising, directly or indirectly, from any use of such n i formation. The views and opinions expressed herein may be subject to change at any given time and ABN AMRO is under no obligation to update the information contained in this document after the date thereof.

Before investing in any product of ABN AMRO Bank N.V., you should obtain information on various financial and other risks and any possible restrictions that you and your investments activities may encounter under applicable laws and regulations. If, after reading this document, you consider investing in a product, you are advised to discuss such an investment with your relationship manager or personal advisor and check whether the relevant product 窶田onsidering the risks involved- is appropriate within your investment activities. The value of your investments may fluctuate. Past performance is no guarantee for future returns. ABN AMRO reserves the right to make amendments to this material. ﾂｩ Copyright 2015 ABN AMRO Bank N.V. and affiliated companies ("ABN AMRO").