EURJPY – Yen weakens in line with higher EZ yields

EURUSD – Dollar retreats

EURJPY – Yen weakens in line with higher EZ yields

EURCHF – Appreciation pressure eases

US dollar weakens following recent central bank decisions

The most recent monetary policy decisions in the euro zone and the US have lent support to the euro or have weakened the dollar, respectively. After the last meeting of the ECB council the wording of statements at the press conference suggested that the situation was deemed to be improving. The key points of the outlook nevertheless remained unchanged. However, the statements released by the Fed were more important for EURUSD than those of the ECB council. As expected, the FOMC hiked the target range for the federal funds rate by 0.25% to 0.75 – 1.0% on March 15, but left its outlook unchanged. For example, the new projections by FOMC members regarding upcoming moves in the federal funds rate remained unchanged relative to those released in December, calling for a total of three rate hikes this year (median). Statements ahead of the meeting had encouraged speculation about possible changes to the outlook. When that didn't come to pass, the dollar sold off. Lastly, the outcome of the Dutch election may also have contributed to the strengthening of the euro. Political risks were reduced by the relatively poor performance of Geert Wilders.

We expect the dollar to weaken slightly over the rest of the year. The markets have largely priced in the two additional Fed rate hikes we expect to see this year, thus the dollar is unlikely to receive additional support from this source. Moreover, we expect to see continued strength in euro zone economic data, which should fuel speculation that the ECB will adopt a less expansionary monetary policy stance. We believe the greatest risk to our forecast consists of a stronger than expected increase in US inflation rates, which would lead to a greater number of rate hikes by the Fed and consequently a stronger US dollar.

JPY – Yen weakens in line with higher bond yields in the euro zone

The Bank of Japan announced no major changes with respect to its monetary policy stance recent meeting (March 16 2017). In order to achieve its inflation objective of 2% as soon as possible (most recent reading: 0.1% y/y), the BoJ continues to put its faith into negative deposit rates, QE (approx. JPY 80 trn. per year), as well as control of the yield curve. The latter translates into a commitment by the BoJ to peg 10 year JGB yields close to a level of 0%.

Since February 24 bond yields in the euro zone have increased substantially at the long end of the curve (inter alia triggered by the recent Fed rate hike). Since the BoJ is pegging comparable Japanese government bond yields to 0%, the yen accordingly weakened against the euro. As a result of the decreasing momentum of populist forces in Europe, political risks in the euro zone are currently in retreat. We expect that this will be reflected in a gradual increase in euro zone bond yields in coming months, with the strong economic recovery also lending support. As long as the BoJ remains committed to its policy of controlling the yield curve, this suggests that the yen is likely to weaken further against the euro in coming months.

The greatest risk to this forecast is posed by a potential victory of Marine Le Pen in France's presidential election, which could see the yen firming against the euro (according to recent polls that appears rater unlikely though). However, in the event of a general increase in risk aversion in financial markets, appreciation pressure on the yen could emerge at any time as well. From a technical perspective there is currently a strong area of resistance between the 122-123 levels. Should it be overcome, a rapid move toward 127 could ensue. Should the yen strengthen, the first area of support in EURJPY would be encountered near 118. According to Bloomberg, the analyst consensus calls for the EURJPY cross to trade at 123 by Q4 2017.

EURCHF – Appreciation pressure eases

On occasion of its last meeting, the SNB confirmed that it will maintain its expansionary monetary policy. The target range for three month Libor remained at -1.25% to -0.25% and interest on sight deposits with the central bank was kept at an unchanged rate of -0.75%. According to statements by the SNB, the Swiss franc is still significantly overvalued. Due to the increase in oil prices, the SNB has slightly raised its conditional short term inflation forecast.

Fundamental factors have barely changed. The SNB's revised inflation forecast of March continues to suggest that a further widening of the inflation differential between Switzerland and the euro zone should be expected for 2017; a moderate tightening seems only likely by 2018. On the political front the Dutch election indicated that the momentum in favor of populist parties in Europe has at least temporarily stalled. As a result there has been no further increase in risk premiums on government bond yields of peripheral countries and France over German Bund yields. Thus the attractiveness of the Swiss franc as a safe haven has subsided somewhat as well, and the momentum of the surge in sight deposits at Swiss banks has noticeably decreased. In this environment there is also less of a necessity for the SNB to intervene in foreign exchange markets.

From a technical perspective the EURCHF cross rate is currently fluctuating in a tight range between 1.07 and 1.08. If no fresh political risks emerge, the risk tolerance of investors toward the euro zone should increase in line with the global economic upswing as the year progresses. That should lend support to the euro and we expect the Swiss franc to weaken to around 1.09 Swiss francs per euro by Q4 2017. However, a minimum exchange rate is no longer enforced. Should certain risks materialize (e.g. geopolitical conflicts, political turmoil in the EU), the Swiss franc could once again appreciate rapidly and strongly.

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