According to Taisuke Tanaka, Strategist at Deutsche Bank, EM/commodity currency view different for JPY and USD based investors as the AUD, NZD, BRL and ZAR are all notably strong against the yen.
Key Quotes
“Japanese investors have long had a preference for such high-yielding currencies. However, the allure of such currencies looks quite different viewed from the dollar and yen amid the present high USD/JPY trend.”
“When the dollar is strong during a US monetary tightening cycle, emerging market (EM) currencies tend to weaken as funds outflow to the dollar. A strong dollar also puts downward pressure on dollar-denominated commodity prices. We believe the Trump administration's policies will prompt growth in both the US economy and interest rates, supporting the dollar's rise.”
“This is likely to weigh on EM and commodity nation currencies. However, the situation is different from the huge outflow of funds starting in the early phase of the dollar's upward cycle in 2012-13. The dollar is presently in the second half of its upward cycle, and the fund outflow is slowing momentum. Some commodities are being supported by supply/demand balances.”
“As the yen weakens in the face of the dollar's strength under the Trump rally, we believe some stronger EM and commodity nation currencies will come to look attractive to Japanese investors. Japanese buying could make the comeback in these currencies appear even more robust. However, this is an optimistic view exaggerated by the yen's weakness against the dollar.”
“We feel that most EM or commodity currencies including the BRL do not have sufficient power to recover on their own strength. Dollar-based investors may want to sell on the rebound if long positions in these currencies are crowded under pressure from the strong dollar. We see this as a risk for Japanese investors.”
“Over the medium term, we need to be aware of the risk of a weakening in support from the fundamentals and supply/demand conditions in EM and commodity nations, which are still not entirely firm. That may be caused by selling on the rally. Or, for example, concern over China might also spur broad risk-off sentiment.”
“Over the coming three years, we see that the yen could outperform EM and commodity currencies once the dollar's upward cycle reaches an end. Japanese investors should consider whether to buy at all as well as the timing, level and duration of any such purchases with consideration of both the high yields (income) and forex risk of such currencies.”
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