US election risks for FX markets: The Brexit lessons – Westpac

Research Team at Westpac, lists down the US election risks for FX markets by taking reference from the recent Brexit scenario.

Key Quotes

“GBP traded in a nearly unprecedented 18+ big figure range the day following the UK referendum result, the move exacerbated by the currency’s near US7 cent rise in the week into the vote. The USD index by contrast is down about 1.2% since late October, pricing in at least a modicum of Trump election risk.

The USD’s reserve and “safe haven” status however very likely sees it trade differently than GBP in the event of a Trump win. The USD likely firms against emerging market and growth/commodity sensitive currencies in the event of a Trump win and sheds ground against the more defensive low yielding current account surplus currencies like EUR, CHF, JPY.

If anything MXN will trade more like GBP post Brexit, in the event of a Trump win. MXN has long been considered a more ideal hedge for Trump risk given Mexico’s has the highest exposure to Trump’s strict trade and immigration stance. While some “Trump risk” is already priced into MXN (-6.4% year to date, making it the 2nd weakest G20 currency) a GBP like reaction (-8%) can still be expected on the day, especially given the currency’s significantly lower liquidity.

USD/JPY will fall at least as sharply on a Trump win as it did on the UK vote (-3.7% the following day), likely putting it near 100 if not well through.

EUR/USD should post moderate further gains on a Trump win too but it is not the cleanest trade. EUR fell after Brexit as markets priced in similar political risks to the Eurozone (along with a perceived weaker growth outlook then). In the event of a Trump win markets will focus even more acutely on Eurozone political risks (Italian Senate referendum later this year and French, Dutch and German national elections in 2017), hardly EUR positive. But, likely diminished odds of a Dec Fed hike point to overall EUR gains on a Trump win. EUR/USD is likely to test the upper reaches of its recent ranges on a Trump win (1.14-1.15). Expect EUR to fall back to near 1.09 on a Clinton win.

A Tump win should see AUD and NZD post similar price action as was seen in the UK referendum – risk  aversion driven losses.

The ADXY – the Asian currency index – fell 1.2% the day after the UK vote, but clawed back losses in the subsequent month. Asian currencies are unlikely to put in a repeat performance, though they will fare better than MXN. Trump’s mercantilist approach to trade will put Asia’s trade surpluses with the US in his cross hairs. Chinese policymakers might be tempted to engineer a quick CNY devaluation in the event of a Trump victory too, before he enters the White House. Officials in China might calculate that their scope for “engineering” further meaningful CNY weakness would be politically constrained under a Trump presidency.”

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