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Standard Chartered
The de-coupling within Asia
- We expect USD-AXJ, e.g. USD-SGD and USD-MYR, to bounce higher in Q1-08
- Clients should use this to position themselves for more gradual AXJ strength
- ECB injected USD 500 bn in 2-week liquidity, money market rates dropped
Market Focus
Overview
Over the last sessions USD-AXJ has bounced higher as local asset markets have sold off. We have for a long time argued that USD-AXJ will bounce higher in Q1-08 when some of the weakness in the US bites into Asia and the credit market turmoil may reach its peak. We have also been arguing for a de-coupling within Asia. Large economies such as India, China, Indonesia, South Korea but also Vietnam and Philippines where exports to the US constitute a relatively small part of their economies will be less affected by the US slowdown. On the contrary smaller open economies such as Singapore, Malaysia, Thailand, Taiwan and Hong Kong are vulnerable. How hard they will be hit obviously depends on how severe the US slowdown will be and how much the weakness in the US will spread to Europe and the rest of Asia. In 2001, which was the last time the US economy was flirting with a recession, all the small open economies in Asia, except Thailand, went into a recession. However, that was also at a time where the US weakness spread forcefully to Europe and Japan. That is likely to be different this time given stronger domestic demand in Germany, Japan, China and India. Moreover, with the exception of Thailand, domestic demand in the smaller open economies in Asia is significantly stronger now than in 2001. However, to say that Asia is not vulnerable especially at a time where it looks like Europe is topping out is not realistic. Moreover, a scenario where the Fed has to stop cutting interest rates because of inflation concerns despite weakening growth is certainly not a good environment for AXJ asset markets. The currencies which will be most vulnerable are e.g. the Singapore dollar (SGD), the Hong Kong dollar (HKD), the Taiwan dollar (TWD), the Thai baht (THO) and the Malaysian ringgit (MYR).
To be sure, many AXJ currencies, e.g. the MYR and the SGD, are likely to resume to their trend appreciation against USD in H2-08. Hence, from a strategic point of view we will advise local Asian corporates that are short local AXJ currencies to use the bounce higher in USD-AXJ to raise hedge ratios. Similarly, we will recommend leveraged market players and real money funds to use higher levels in USD-AXJ to position themselves for more gradual AXJ strength especially in currencies such as the Korean won (KRW), the Philippine peso (PHP), MYR and SGD.
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