Special report: Where To Invest In 2013 – Currency

Autumn ranges have prevailed over the last few months as looming event risks worldwide have kept FX markets in the doldrums. Volatility has dropped, ranges continue to contract and liquidity continues to dry up. However, the opportunities may well lie beyond a simplistic trade on EUR/USD.

Perhaps the more interesting story is what currency to use to fund in? We are left with the USD, EUR, GBP & JPY from the majors and it is worth looking at that in detail. Barclays’ view is that the USD is probably not the best bet. Beyond QE3 we have started to see improving US data and we have higher growth forecasts for the US as compared to the Eurozone, Japan and UK. This should be relatively USD supportive against the majors while leading to underperformance against higher yielding currencies in a mildly “risk on” scenario.

Of late UK data has also improved and the chances of further QE by the Bank of England have rescinded, which is GBP supportive. Hence it leaves GBP as a less
than ideal candidate to fund through.

The EUR and JPY are more interesting as central banks in both locations are probably more primed to act. Japan has been under pressure to match the Fed’s easing as it fights against overvaluation.

Our more optimistic view on the US economy would also suggest using JPY as a funding currency. The case of the EUR is more interesting as we are dealing with a much more political animal. EUR/USD has stabilised and found a solid floor at 1.2500 ever since Draghi pledged to do “whatever it takes.” However, although serious tail risk has been removed, we see lingering risks from Spain, austerity measures and no immediate fiscal transfers, as leading to a continued weakness in the Eurozone. This could at some point lead to the ECB having to inject further liquidity, which would be a currency negative.

Thus, overall in EUR/ USD we do see a lower EUR in one year (1.2200 year forecast) based on relative growth prospects compared to the US.

However, Barclays’ sees greater opportunity in perhaps being long on selective EM currencies by using the JPY and/or the EUR as a funding tool.