Key trades for 2015: USD On The Up, SNB On The Floor

We put together some of the key trades and trends on the horizon for what promises to be an exciting year for forex trading in 2015. Read on below for a close look at the key currencies, while don’t forget to check out our review of 2014 and CEO Sam Barry’s letter summarising the year just gone and the one that awaits.

Dollar

The Dollar was the out-performer in G10 in 2014, and the market expects USD strength to continue over the coming year. Although the pace of appreciation may slow, the US currency should be underpinned by the anticipated strength of the economy (US growth in 2015 is expected to top the G10); rising expectations of a Fed rate hike in the summer; and, amid ongoing stimulus in many other countries, a widening divergence in monetary policy outlooks in other countries.

Although the markets are already priced for the first rise in US interest rates towards the end of Q3, given the strength of recent US economic data and the erosion of spare capacity in the labour market, markets expect the Fed to move sooner.

However, with USD long positioning (CFTC) now near all-time highs, scope for substantial out performance in the near term is limited and we anticipate a period of position adjustment before the next leg higher in USD.

Among the major FX pairs I look for GBPUSD at 1.54, EURUSD at 1.20, USDJPY at 124.00 AUDUSD 0.78 EURCHF 1.23 in 2015

Euro

EURUSD has declined sharply over the past year, driven by unprecedented ECB monetary stimulus, weak growth and growing concerns over the inflation outlook.

With the ECB expected to announce further monetary easing, most likely in the form of sovereign QE, the Euro is likely to come under further pressure in the first half of 2015. The amount by which the Euro drops in response to further policy stimulus will crucially depend on the extent to which the market views any further measures as effective.

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Given the market’s response to previous ECB stimulus, there is significant risk the market will be disappointed, potentially prompting a pronounced fall in EURUSD.

Adding to the bearish case for the Euro, is the growth and inflation outlook. Euro area growth and inflation are expected to remain subdued in 2015, with a material risk that falling oil prices push the Euro area inflation into negative territory. In addition, heightened geopolitical risk from Russia, Ukraine and political uncertainty within the periphery – Greece, Spain and Portugal are all due to have elections in the coming year – may also weigh on the Euro.

Overall, the arguments bearing down on the Euro in 2015 look substantial. That said, CTFC data show net EUR short positions are already at extended levels and should limit significant EUR downside in the near term, however, over the medium-term look for  EURUSD to test 1.20 before any meaningful corrective move.

The key to the Euro in 2015 is likely to be how much the market has already priced in a lot more Euro weakness. General market participants are extremely Bearish the Euro and when opinion falls to heavily one side it can have the opposite impact. Good one to watch in 2015 and we could see some really good trends to trade.

Cable

UK GDP growth is expected to remain relatively firm over the coming year. This, coupled with the prospect of a rise in UK interest rates, should help support the UK currency.

Markets expect the first rise in UK Bank Rate to occur in August 2015; however, the markets continue to discount a more benign outcome. But while the outlooks for the UK’s growth and interest rate differentials argue in favour of sterling strength, heightened political uncertainty and the marked imbalances in the UK economy pose downside risks.

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The General Election on 7th May could be a potential flashpoint, with polls currently pointing to a hung parliament. Amid rising political uncertainty, the size of the UK’s current account deficit could become more of a focus.

The UK’s external balance has continued to deteriorate, with the current account deficit widening to 5.2% of GDP – a postwar high. Net net expect a 1.54 test for GBPUSD in 2015 before any meaningful post election recovery.

Watch for potential rates rises, market expectations and potential shocks to these to cause additional trends in GB Pound. Market participants pricing in potential rate hikes and these materialising or not could cause some interesting month on month moves.

Yen

The inflation outlook remains a key factor for Bank of Japan (BOJ) monetary policy and the direction of JPY. The Japanese yen has fallen sharply since the BoJ surprised markets by announcing further easing measures in response to concerns over the inflation outlook.

The Bank also revised lower its CPI forecasts, with CPI ‘ex-sales tax hike’ projected to be 1.7% y/y for fiscal year 2015, below the 2% price stability target. While the BOJ has so far dismissed recent weakness in oil prices as temporary, and has rejected the need for further stimulus, the Bank is no doubt keeping a close eye on developments in inflation expectations.

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As a major energy importer, the decline in oil prices represents a welcome boost to the economy following the recent downturn in economic activity.

Over the near term, however, the fall in oil prices is likely to put further downward pressure on inflation. The implications of all of this for the yen are not clear cut, but risks of further easing are expected to continue to undermine the currency.

Furthermore, even if demand picks up in response to the fall in oil prices, this should be reflected in a stronger Japanese stock market leading to a weakening in the yen. Since the yen is perceived as a funding currency, it tends to under perform when the price of risk assets is rising. Overall look for USDJPY to test 124.00 in 2015

Aussie

A slowdown in the Chinese economy remains a key external risk for the AUD. Despite the likelihood of further policy easing from the PBoC, economic growth is likely to slow further in 2015.

If so, this should put added downward pressure on iron ore and copper prices. Further declines in commodity prices would bear down on Australia’s terms of trade which, coupled with a further slowdown in mining investment, is likely to add to the downside pressure on Australia’s growth over the coming year.

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The weaker growth outlook argues for further AUD weakness. But balanced against this, continued capital inflows into AUD assets as investors look for attractive yields should provide some modest support for AUD. On balance, however, rate expectations and continued USD out performance are set to dominate. Expect AUDUSD to test 0.78 in 2015

Swissie

The SNB remains wedded to the EUR/CHF floor at 1.20 and looks committed to doing so throughout 2015. The SNB simply has too much to lose by allowing the floor to break.

Not only would it undoubtedly see the CHF surge and send a broader wave of deflation across Switzerland, but it would also deliver a CHF50bn+ loss on Swiss FX reserve holdings and would raise the prospect of an embarrassing request for a recapitalisation from the government.

Instead, markets see the likelihood that the SNB is forced into more action in 2015 to defend the floor but this via continuation of the negative interest rates policy.

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Markets think that could be enough to send EURCHF higher by end the end of 2015. FX reserves have become unwieldy at 70% of GDP markets very much doubt that the SNB would want to undertake another major campaign of FX intervention.

Even now, pulling out of the floor would probably trigger a 10% EURCHF decline and deliver a CHF50bn revaluation loss for SNB FX reserves. That would wipe out two thirds of the SNB’s current balance sheet provisioning and require a recapitalisation from the government. This would be embarrassing so shortly after the SNB survived a gold referendum where a Yes outcome would clearly have infringed on SNB independence.

Based on a conviction call that the EUR weakens in 2015, markets believe the SNB will be dragged into a prolonged period of negative rates or charges on CHF sight deposits perhaps at the June 2015 meeting (this would be enough time for the ECB to agree on and start to implement a QE programme).

Markets tend to agree with the SNB’s view that given the size of excess CHF liquidity (CHF300bn+) negative interest rates in Switzerland will be a more powerful tool than negative interest rates in the Eurozone. For that reason,  the SNB will likely be doing battle with EURCHF 1.20 through the first half of 2015, but EURCHF floor surviving and EURCHF testing 1.23 and ending 2015 higher.

Liked this? Make sure to check out our review of 2014 and CEO Sam Barry’s letter summarising the year just gone and the one that awaits.

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