The $7 trillion foreign exchange market can be merciless if you read its macro smoke signals wrong or ignore the hoofbeats of the leveraged herds who determine its positioning, politics of central banks, government policy and above all the psychology that shapes sentiment.
The biggest consensus trade for 2023 was supposed to be the dethronement of King Dollar amid a robust Chinese reopening recovery and an inflation driven monetary policy shift by the new governor of the Bank of Japan. These twin macro trades were a money snake pit. The Chinese reopening was no slam dunk, crippled by history’s biggest property debt black hole, timid consumer spending, near bankrupt local governments, 20% youth unemployment and an alarming contraction in factory orders/exports. Net net, global investors are net sellers in the stock exchanges of Shanghai, Shenzhen and Hong Kong.
The geopolitics between the PRC and Washington continues to make new lows amid wolf warrior nationalism in the Middle Kingdom and Taiwan chicken hawks in the Biden White House. The Chinese yuan was 6.70 in mid-Jan but has tanked to 7.12 now. Game, set and match to Malik Buckeroo.
The yen bulls (and I was one too) were also knifed in the derriere when the Bank of Japan did not abandon its ultra easy YCC monetary policy under Kuroda-san even after he retired in April. Inflation numbers in Japan have risen but Governor Ueda has not responded with any policy regime change. So the Japanese yen has tanked to 140. After the wild move from 150 in late November to 128 in mid-Jan, long yen became the most crowded trade in Planet Forex. This groupthink ended in tears when the Powell Fed hiked its overnight borrowing rate to 5.25% while Ueda-san did squat. Yet I still believe that USD/JPY is grossly overvalued once the Fed tightening cycle ends but PPP models can be the kiss of death in real life FX if you misread the Tokyo samurai policy hikus and the cherry blossoms on Fujiyama wrong.
In relative terms, the velocity of Powell Fed’s rate hike is as draconian as Paul Volcker’s interest rate sledgehammer in the early 1980’s. Yet the US economy has still not slipped into recession, despite an inverted yield curve, three bank failures, a mini credit crunch, $13 trillion in consumer debt, 8 months of manufacturing contraction, soft LEI’s, $1 trillion in credit card delinquencies and now the ultimate SOS in services ISM. If it quacks and walks like a duck, it is a duck in my brain. This means a lower dollar but then logic has nothing to do with the whims and caprices of the Gods who rule Planet Forex.
The Bank of Canada shock rate hike has reminded the money souk that even if the FOMC pauses in its June conclave, a pause is not a pivot. The market expects 100 basis points in Fed rate cuts by mid-June 2024. I do not know what Mr. Market is smoking in his philosopher’s pipe but it is definitely something a lot edgier than Marlboro Lights.
Also published on Medium.
