Currency Views: February 2012 - OCBC Wealth Management

Greenback could find renewed support on European debt woes

2 February 2012

The Euro-zone debt crisis remains in the forefront with rating downgrades of Euro-zone sovereign debt by S&P and Fitch in January, and uncertainties about a Greek debt default. Although the ECB helped to ease concerns by making cheap long-term loans available to banks, the debt crisis remains a threat and the economic outlook for the Euro-zone remains poor. Despite the gloom in Europe, the euro rebounded against the greenback, partly due to the optimism that European leaders will ultimately find a solution to the region’s debt crisis and also because the Fed surprised markets by forecasting that the Fed fund rate will remain low until end-2014. The U.S. central bank also alluded to the possibility of more quantitative easing if necessary, which weighed on the U.S. dollar as well.

Commodity-linked currencies like the Australian dollar also did well against the U.S. dollar in January helped by the improved risk appetite among investors and owing to weakness in the greenback. If the situation in Europe deteriorates, this could weigh on commodity-linked currencies like the Australian dollar, but any downside may be fairly limited, given that the Australia is one of the few triple-A rated nations in the world. Medium-term investors who are keen on yield may wish to gain exposure to these commodity-linked currencies on any major pullback.

Despite the recent dollar weakness, the greenback could find renewed support if the crisis in Europe worsens, denting risk appetite. U.S. economic data have also shown a distinct improvement, in contrast to the deteriorating situation in Europe, resulting in greater demand for the greenback. Over the medium term, however, as the situation in Europe is expected to improve, we remain negative about the greenback, given the U.S. government’s still-sizeable national debt and fiscal deficit.

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