Brexit backdrop favours the traditional safe havens like the USD and JPY – TDS

Research Team at TDS, sees two other important themes emerging in H2.

Key Quotes

“First, we think FX markets will reward currencies where economic growth has its best potential to accelerate. With growth still sorely lacking in many major economies, however, the emphasis looks likely to shift to fiscal stimulus and the governments most willing—and able—to deploy it.

This comes as conventional monetary policy (and in some cases, unorthodox policy) has reached its effective limits in many advanced economies. Even though more extreme policies are available for policy makers, we suspect the increasingly difficult political environments will complicate their implementation anytime soon. The interplay of fiscal policy, monetary policy, and exchange rates is complex and not always consistent over time. In this environment, however, we believe that a shift in the policy mix towards fiscal stimulus (and away from monetary accommodation) will benefit currencies backed by governments adopting pro-growth policies.

Second, risk appetite is likely to remain a key driver in Brexit’s wake, although the changing nature of risk reward and yield could shift both the nature and behaviour of safe havens. Increased focus on political shocks and lingering policy uncertainty could weigh on FX with large external deficits.

We caution against oversimplifying this factor however, as ultimately we think the composition of these deficits will matter as much—if not more so—than their size. Over time this could benefit currencies with better credit ratings and higher real rates, but this allocation shift could take time and will be slow. For now, we think this backdrop favours the traditional safe havens like the USD and the JPY even with the Fed on hold for a while longer.”