(TIỂU LUẬN) FX market analysis and trading strategies report group assignment

United State ● Historical data Figure 3: Inflation Rate in the United States.. ● Forecast Figure 4: Forecasted Inflation Rate in the United States.. Japan ● Historical data Figure 5: I

BAFI3182 - Financial Markets

FX market analysis and Trading strategies report

Group assignment

Lecturer: Nguyen Thanh Ha

Students:

Nguyen Thi Huong Xuan (s3697326)

Word count: 2498

III Relative Economic Growth Rates (Real GDP Growth) 14

Through analysis, we forecast that USD will depreciate against both JPY and AUD in the next 6 months Therefore, Techcombank should buy JPY and AUD with USD at this moment then sell both currencies to USD by January 2020 to make profits The estimated profit after trading can be up to 4,564,041.594 USD as if the bank follows the suggested strategies that will be provided in this report

INTRODUCTION

Techcombank is one of the top popular commercial banks in Vietnam in recent years In the next 6 months, our bank is going to enter the exchange transactions for USD/JPY and AUD/USD Our objectives are to maximize the profit through trading each pair of currency while remaining the liquidity of the money market and avoid any risks that may happenduring the trading period

This report will be divided into three parts which are: Examination of past behaviors for both USD/JPY and AUD/USD, Analysis of macroeconomics factors that drive the exchange rate, Trading strategies to maximize profit and minimize risks By performing the tasks, my team will provide the best output that can be archived by the end of trading period

FX MARKET PAST BEHAVIOR

Then the USD bid rate rose until the end of 2018 As Vatsal (2019) shown a highlight event

is that, US put tariffs on $200 billion of Chinese goods starting January 2019, where many investors’ belief on a safe investment as USD is rampling once more

Moving to the first half of 2019, the bid rate fall again and stable at around 110 JPY per USD

This is due to Brexit no-deal is a risk to the future of Japan's automobile industry (Simon 2019)

II AUD/USD

Figure 2: AUD/USD FX Spot Rate Reproduced from: Thomson Reuters Eikon

In the last 2 years, The AUD/USD spot rate have a tendency to decline, where AUD lost about 15% in value, down from 0,8054 of Q3 2017 to 0,68 in this July This is because the US-China trade war and the slow global growth have weakened the manufacturing inAustralia and hurt the Australia exports, thus leading to less demand for AUD, causing AUD

to depreciate against USD (Knaus 2018)

Another key reason is that AUD has become riskier, many investors are now suggested to trade AUD for higher yield currencies, and some started buying their AAA-rated bonds forforeign companies (typically Apple), thus lowering the demand for AUD (Cole 2019)

DETERMINANTS OF EXCHANGE RATES ANALYSIS

I Relative Inflation Rates

a United State

● Historical data

Figure 3: Inflation Rate in the United States Reproduced from: Thomson Reuters Eikon

Before June 2018, US had experienced a considerable rise in inflation, reaching a peak of 2.9% This is mainly because of the rising cost of medical care, shelters and gasoline, which reflects a strong and fully-employed economy (Bartash 2018)

However, due to the significant increase in oil supply, the US gasoline prices started to fall in July 2018 (Constable 2018) Thus, the economy slowed down, causing the US inflation rate

to drop rapidly, hitting the lowest point of 1.5% in February 2019 Afterwards, the rate rose modestly for a while then declined again, hitting 1.6% in July 2019

● Forecast

Figure 4: Forecasted Inflation Rate in the United States

Reproduced from: Thomson Reuters Eikon

US inflation rate is forecasted to increase gradually in the following 6 months (Reuter) However, many economists have downgraded their inflation projection for Q3 2019 from1.8% to 1.5%, as “there is a risk that weak inflation will be more persistent than currently anticipate” (Mutikani 2019)

b Japan

● Historical data

Figure 5: Inflation Rate in Japan Reproduced from: Thomson Reuters Eikon

Overall, although the inflation rate in Japan fluctuate continuously throughout the period, the varying range of which is much lower compared to the US Japan’s CPI has been mostly on the floor, ticking up only during January 2018 and August-October 2018 due to high energy costs (Kuroda 2018)

After October 2018, the rate tailed off again for months, hitting the lowest point of 0.2%(January 2019), which was the result of the US-China trade war discouraging the demand for Japanese electronics, car parts and heavy equipment, thus lowered the prices (White 2019)

● Forecast

Figure 6: Forecasted Inflation Rate in Japan Reproduced from: Thomson Reuters Eikon

According to Figure 6, the inflation rate in Japan is expected to slow to 0.5% in Q3 2019, which is similar to forecast from Mari Iwashita (chief market economist at Daiwa Securities) (Kihara & Leussink 2019) The rate then rise again, reaching an even higher rate of 0.8% in Q1 2020

However, as trade frictions and slowing global growth (due to US-China trade war) threaten

to put the brakes on Japan’s economic recovery, other economists argued that inflation in Japan would only decline in the near future (Kihara & Leussink 2019)

c Australia

● Historical data

Figure 7: Inflation Rate in Australia Reproduced from: Thomson Reuters Eikon

Inflation rate in Australia had a generally stable trend at around 1.8-2% throughout most of the period However, since Q4 2018, the rate has declined significantly, hitting rock bottom

of 1.3% in August 2019 According to economists, this is the lowest Australian inflation has been in 50 years, which is mainly due to the massive drop in prices of childcare, vehicles and telecommunications services (Ross 2018)

● Forecast

Figure 8: Forecasted Inflation Rate in Australia Reproduced from: Thomson Reuters Eikon

According to Reuter, inflation rate in Australia is forecasted to increase to 1.7% in the next two quarters of 2019, even reaching the 2% inflation target by 2020

However, many economists argue that nothing might push up Australian inflation in the near future AMP Capital senior economist Shane Oliver said that not until at least late 2020 would the Australian inflation rate rise (Ross 2018)

-

According to data from Thomson Reuters Eikon, inflation rates of both the US and Japan are forecasted to increase in the next 6 months As the US’s inflation is higher and could experience a more substantial increase than Japan, prices of US’s goods and services would increase higher in USD term Therefore:

➔ Less demand for US’s exports, thus less Japanese demand for USD

➔ More demand for imports of relatively cheaper Japanese goods, thus more supply of USD

Thus, USD would fall in value and the currency would depreciate against JPY

Similar to the analysis above, as the US has higher actual and forecast inflation rates than Australia, USD is expected to depreciate against AUD

Nevertheless, the precise movement in the value of currencies cannot be determined byinflation rate alone, because not enough information has been provided and PPP theory has to

be taken into account

II Relative Interest Rates

a United State

● Historical data

Figure 9: Interest rate in the United States Reproduced from Trading Economics

Interest rate in the US had been increasing gradually from 2017 to January 2019 Afterwards, FED pause it's interest rate rises at 2.5% until July 2019 due to low inflation, US-China trade war and the slowing growth of multiple markets (Europe, China and Japan) (Roubini 2019)

On 31 July 2019, FED lowered the interest rate (to 2.25%) for the first time since 2008 Thisaction aims to stimulate the economy by increasing purchasing power, thus boosting theinvestment and consumption However, many economists expect that the rate cut would havelimited impact on exchange rates due to the massive quantitative easing and rate cutworldwide (Chadwick 2019)

● Forecast

Figure 10: Forecasted Interest rate in the United States

Reproduced from: Thomson Reuters Eikon

Interest rate in the US is forecasted to continue declining in the following months due to the unexpectedly persistent low inflation and weak global growth Many economists expectedthat the FED would lower borrowing costs at least twice this year (Timiraos 2019)

b Japan

● Historical data

Figure 11: Interest rate in Japan Reproduced from Trading Economics

Bank of Japan (BOJ) has adopted a negative interest rate policy since early 2016 and maintained it at negative 0.1% until the point of writing (August 2019), aiming to encourage borrowing, spending and investment in Japan instead of saving (Farrell 2016)

● Forecast

Figure 12: Forecasted Interest rate in Japan Reproduced from Thomson Reuters Eikon

Japan is expected to keep ultra-low interest rates of negative 0.1% for the following 6 months and longer However, as negative developments in overseas economies and US-China trade

war raises fears of a global recession, the BOJ has signalled its readiness to ease the situation

by changing its interest rate and monetary policies (Kihara & Leussink 2019)

c Australia

● Historical data

Figure 13: Interest rate in Australia Reproduced from Trading Economics

Until June 2019, interest rate in Australia was held steady at 1.5%, marking over two whole years without movement (Williams 2018) However, due to drop in inflation (Figure 7),Australia decided to cut rates to historic low of 1% (July 2019) with an attempt to reduce unemployment and boost inflation back towards its 2-3% target range (Farrer 2019)

● Forecast

Figure 14: Forecasted Interest rate in Australia Reproduced from: Thomson Reuters Eikon

Interest rate in Australia is forecasted to remain at 1% for one more quarter then decline to 0.75% from Q4 2019 onward Many economists expected the rate would not raise until late

2020 due to the weakness in inflation, wages and the uncertainty in consumer spendingoutlook (Letts 2018)

➔ However, US had higher interest rates because it already obtains the higher inflation and inflationary expectations than Japan Therefore, in reality, USD would depreciate against JPY This could also due to the current economic instability in the US that makes investors exchange USD to the more stable JPY in order to diminish risks

➔ Furthermore, Paul Meggyesi (head of FX strategy at J.P Morgan) forecasts that the FED’s rate cut recently would mostly affect the USD/JPY (weaken the USD), whilehaving limited impact on other exchange rates (Skinner 2019)

With AUD/USD, interest rates in US and Australia are both expected to fall Similar to the analysis above, US had higher interest rate is due to higher inflation and inflationaryexpectations than Australia Thus, USD is expected to depreciate against AUD

III Relative Economic Growth Rates (Real GDP Growth)

a United State

● Historical data

Figure 15: Real GDP Growth Rate in The US Reproduced from: Trading Economics

Since Donald Trump’s administration in 2016 until now, the US GDP growth has beenfluctuating around 2 % on average, except for the unexpected low point of 1.1% in January

2019 Cox (2018) stated streamlined taxes and lessen regulation for the corporate sector is a momentum to US’s growth This encourages the investment into the US, and widely, more demand for the USD

● Forecast

Figure 16: Forecasted Real GDP Growth Rate in The US

Reproduced from: Thomson Reuters Eikon

Real GDP Growth Rate in The US is forecasted to decrease in the following months According to Cox (2019) , the US economic growth would be at a slower pace than last year’s period

b Japan

● Historical data

Figure 17: Real GDP Growth Rate in Japan Reproduced from: Trading Economics

In the recent 3 years, despite the clumsy Japan having ups and downs, their average GDP growth is steadily around 0,5 % During 2018, the Japan market has a shock in their GDP gains with a negative point of -0.1% (March 2018) and -0.6% (August 2018)

● Forecast

Figure 18: Forecasted Real GDP Growth Rate in Japan

Reproduced from: Thomson Reuters Eikon

Real GDP Growth Rate in Japan is expected to fall, even hitting a negative point of -0.5% in Q4 2019 (Reuter), indicating that the nation would experience a recession However, other market participants has provided opposite opinion, forecasting that Japan's GDP would rise in the following months (Trading Economics 2019)

c Australia

● Historical data

Figure 19: Real GDP Growth Rate in Australia Reproduced from: Trading Economics

From January 2017 and its 5 consecutive period, Australia has gained about 0,7 % in GDP growth quarterly Since then, the country decelerates its growth to below 0,5 %, and it was finally marked at 0,4 % for the Q1 2019 One reason for this constant low GDP growth in Australia is the “per-capita recession 2019” in which people spending on a budget (Karp 2019)

➔ Less imports, and therefore less supply of the JPY

➔ Decrease the level of overseas investment, and therefore less demand for JPY

As both supply and demand of JPY would fall, the net effect of Real GDP growth is difficult

to predict the exchange rate in advance

Similar analysis applied for AUD/USD, in which the Real GDP Growth of Australia is

forecasted to rise while that of US would fall

IV Official Intervention

➔ Reduce excess exchange rate volatility (FX smoothing)

➔ Signal the US’s views on the exchange rate

But due to conflict in rate-setting between the Treasury and Fed, US’s intervention had been out of favor since 1996 and the last intervention was from 2011 (FED of New York n.d.)

● Forecast

As Fed’s recent action (lower interest rates) and expected rate-cutting path correspond withthe government’s desire, it has been easier for the US to push for FX interventions, aiming to weaken USD to increase exports (Szalay 2019) Various analysts from ING to CIBC also

openly expect intervention from the US shortly (Greifeld 2019) Therefore, it is forecasted that there would be official intervention from the US to depreciate the USD

If central bank wanted the USD to depreciate from its free market exchange rate, it would enter the market as a seller of USD This increases the supply for the USD and thus, decrease the value of USD

b Japan

● Historical

Japan used to consistently depreciate the JPY by selling it heavily before the 2000s (Harding 2018) However, Japan has not taken a market intervention since 2011 due to already effective monetary easing (Shirai 2019)

● Forecast

Japan’s finance minister claimed that there would be no need to intervene in the foreignexchange market in the near future (Harding 2019) Thus, Japan is expected to have no official intervention to affect the exchange rate

c Australia