Global Interest Rate Cuts and US Election May Stir Currency Markets
As the global currency markets experience their quietest period in nearly four years, traders and investors are turning their gaze towards potential catalysts that could awaken the sleeping giant. Central to their focus are the anticipated global interest rate cuts and the upcoming US election, both of which hold the power to disrupt the current tranquility.
Historical and expected volatility levels have dipped significantly as major central banks maintain a steady course, leaving FX traders yearning for the once-common divergent moves between regional bond yields. The Deutsche Bank’s implied currency volatility gauge has hit a two-year low, nearing pre-pandemic figures. Andreas Koenig of Amundi notes a lack of change in rate differentials, with all eyes on who will initiate interest rate cuts and the impact of the US elections on FX markets.
Signs of movement are emerging, with the Swiss National Bank’s recent rate cut marking a shift in central bank policies. The Federal Reserve, European Central Bank, and Bank of England are also expected to adjust rates later in the year. Despite a recent uptick in US yields, euro zone bond yields have largely mirrored this movement, with Samuel Zief of JPMorgan Private Bank suggesting that significant volatility would require greater differentiation among central bank actions.
Trump Card
Former President Donald Trump remains a significant factor, with his proposals for universal import tariffs and targeted levies on Chinese goods stirring speculation about potential impacts on currency strength. Barclays analysts predict a 3% rally for the dollar if Trump is re-elected, while the euro and Chinese yuan could face downward pressure. The tight race between Trump and Joe Biden hints at increased volatility in the global currency market as election day approaches.
Oliver Brennan from BNP Paribas highlights that options markets are indicating expectations for heightened volatility in currencies like the Mexican peso, Polish zloty, and the yuan, reminiscent of their reactions to Trump’s 2016 victory. Notably, these markets show a pronounced spike in volatility around the November election timeline.
Despite these anticipations, current low volatility is constraining trading opportunities. Jamie Niven of Candriam notes reduced currency allocations in risk profiles, with some currency pairs like euro-sterling not being considered worthwhile trades due to historically low volatility levels.
However, recent rate adjustments have sparked some volatility in specific segments. The Bank of Japan’s rate hike led to significant movements in Asian currencies, demonstrating how shifts in one region can have broader market implications. In Europe, Switzerland’s rate cut contributed to the euro’s substantial quarterly gain against the franc.
Investors like Guillaume Rigeade of Carmignac are adapting strategies to suit the low-volatility environment, finding carry trade strategies attractive and using the situation to hedge equity or bond portfolios more affordably. For strategists like Zief, while the current market may be characterized by low volatility, it still offers opportunities through carry trades—a silver lining compared to periods of low volatility coupled with very low rates.
