MARKETS seem bolder these days, but investors are alert to a potential currency war.
With President Donald Trump lamenting the strength of the dollar and the yuan plunging to 6.80 per dollar for the first time in a year, market players are watching for any potential impact on financial markets.
Risk assets and oil prices may be hit, taking down currencies of commodity producing countries, especially the Russian ruble, Colombian peso and ringgit, according to Bloomberg.
The rest of Asia could come under pressure although central banks may initially try to intervene to stem currency weakness.
Two key events will be closely watched: whether China will attempt to stabilise the yuan at current levels, and whether the Fed will heed Trump’s complaint on its rate hike path.
US Treasury Secretary Steven Mnuchin said Trump’s comments on the dollar and the Fed’s rate hikes were not aimed “in any way, to put pressure on the Fed” to keep low rates.
The dollar had dipped after Trump’s comments; it is still 5% higher than the time when steel and aluminium tariffs were imposed.
“It is more of how a country defends outflows. China is within its rights to defend its currency less aggressively, which may not sit well with Trump, in the short term.
“In the medium term, US rate hikes will likely stop, leading to improved sentiment in emerging markets (EMs) and stronger Asian currencies,” said Hor Kwok Wai, chief operating officer, global markets, Hong Leong Bank.
The Fed is regarded to be independent; any slowdown in its raising of rates, at this juncture, may be too late.
“The damage is already done. The raging dollar will likely come to a halt late in the year when inflationary pressures are being felt and higher rates needed.
“A steep slowdown may then occur,” said Pong Teng Siew, head of research, Inter-Pacific Securities.
US tax cuts that boost spending and imposition of tariffs are, among factors, causing inflation that needs to be curbed via higher rates, which leads to a strong (and less competitive) dollar and higher borrowing costs (affecting high US debt levels).
Tariff impact that is seen to be denting growth may stall the Fed’s rate hike path. Trump believes he has ammunition, with stockmarket gains since his election (the S&P500 is up 31%), to wage a trade war.
So will that trade war drag on?
“That the US economic expansion remains intact will provide the leeway for the Fed to continue with its rate hikes.
“It may have to slow down the pace of rate hikes if the trade war worsens, but inflation watch remains a priority,” said Lee Heng Guie, executive director, Socio Economic Research Centre.
Minimal impact, so far, from the trade war may have emboldened US markets but Asian markets may still have to be mindful.
“Asian markets should not be under the illusion that it can be business as usual. Outflows from EMs related to the Fed rate hikes is temporary; outflows that may occur from a supply chain pivot away from China, and by implication, South East Asia, may be far more serious, eventually,” said Pong.
In view of US tariffs affecting imports from China, supply chains from Asia that are currently involved in the export of parts and components to China, may need to be overhauled for a re-routing to other destinations.
“Not many countries can take up where China has left off. It does not look like India will be able to take up this challenge in the foreseeable future.
“There will be a lot of upheaval; most of the affected companies are in the technology sector,” said Pong.
“If the trade war worsens, there could be supply chain adjustments in our electrical components sector. Bursa Malaysia looks more optimistic now; we are starting to see some support from local funds,” said Ching Weng Jin, head of research, Public Investment Bank.
Last year, net inflows amounted to RM10.8bil; year-to-date, outflows have hit RM8bil.
Internally, investors are awaiting concrete growth initiatives, which may be announced in the October mid-term review of the 11th Malaysia Plan.
On the trade war front, the tone may have improved as “China’s response to US trade threats is not as abrasive as before,” said Ching.
Second quarter earnings will be the key driver for Bursa Malaysia in the short term.
“Decent US economic data still suggests healthy growth where Asia may ultimately benefit. Investors are still assessing the impact of the trade war on earnings,” said Danny Wong, CEO, Areca Capital.
Economic slowdown and withdrawal of global liquidity are also of concern, said Vincent Khoo, head of research, UOB Kay Hian.
Columnist Yap Leng Kuen cautions against policymakers with insufficient knowledge of economics.