Fundamental Analysis

USD Bounces Back. China's Economy Accelerates

Typography

China's stock markets slid despite solid GDP read

Chinese equities tumbled on Monday with the tech focussed Shenzhen index falling 4.28% to 1,800.54, while the Shanghai Composite was off 1.43% to 3,176.46 points. Data showed the world's second largest economy grew 6.9%y/y in the second quarter, matching the previous quarter's performance but beating median forecast of 6.8%. June retail sales also came in higher than expected, printing at 11%y/y versus 10.6% expected. Finally, industrial production expanded 7.6%y/y, beating forecast of 6.5%.

This morning's sell-off in came on the back of rising concerns about the excess of leverage in the economy and questions regarding potential domino effects once deleveraging actually kicks in. In the FX market the yuan, both onshore and offshore, was trading flat lined despite a broad based strength of the greenback.

The dollar index extended gains against most of its peer, rising 0.35% against the Swedish krona and the New Zealand dollar and 0.25% against the single currency, recovering somewhat after Friday's sell-off. Indeed, the last batch of US data left little for excess optimism. Retail sales printed in negative territory for the second month in a row, contracting 0.2%m/m (versus +0.1% expected). Excluding auto and gas, the measure shrunk 0.1%m/m versus +0.4% median forecast. The persistent weakness in US data suggests that what the Fed sees as “transitory” may have deeper roots, which would for sure dampened its rate pace outlook.

US dollar to weaken, as Fed aims to let inflation run and keep interest rates low

The US Federal Reserve wants to let inflation run and keep interest rates low. This, we believe, is for two reasons. First, letting inflation rise will allow erode the US Central Bank's bond-bloated balance sheet in real terms. Second, hiking interest rates above 2% would trigger a major recession and push debt-service payments to an unsustainable level. (The current Federal Funds rate is 1.16%.)

So at the next meeting of the Fed's Open Market Committee, on 25-26 July, we believe interest rates will not be increased. This will weaken the USD against the EUR, hiking it to $1.15 for 1 Euro in the short term.

Last week, in testimony to the US Congress, Fed Chairwoman Janet Yellen admitted that stocks markets are overheated, and that strong “valuation pressures” prevail across a range of assets. Nonetheless, Yellen was unclear whether interest rates will rise before year-end. Her stance is a marked departure from policy of the preceding eight years, when the Fed repeatedly boosted stocks through liquidity and verbal interventions.

Author: Swissquote Bank SA Website: http://en.swissquote.com/fx
Swissquote Bank SA
Trading foreign exchange, spot precious metals and any other product on the Forex platform involves significant risk of loss and may not be suitable for all investors. Prior to opening an account with Swissquote, consider your level of experience, investment objectives, assets, income and risk appetite. The possibility exists that you could sustain a loss of some or all of your initial investment and therefore you should not speculate, invest or hedge with capital you cannot afford to lose, that is borrowed or urgently needed or necessary for personal or family subsistence. You should be aware of all the risks associated with foreign exchange trading, and seek advice from an independent financial advisor if you have any doubts.
More from the author