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Contributors: Phil Lynch, Rhys Miles, Steve Oram, & Rowan Murphy Introduction Hello, and welcome to the EncoreFX 2018 Market Preview.…

Key Themes to Watch in 2018 – a Currency Market Preview

Published January 11, 2018

Contributors: Phil Lynch, Rhys Miles, Steve Oram, & Rowan Murphy


Hello, and welcome to the EncoreFX 2018 Market Preview. This is the first instalment of a monthly special report for Chief Financial Officers and Finance Managers responsible for looking after foreign exchange risk.

As markets face increasing uncertainty, we break down the key themes that will affect currency markets in 2018.

The US Federal Reserve

The first theme we cover is the US Federal Reserve. The most powerful Central Bank in the world is getting a new boss in Jerome Powell, amidst a tricky set of circumstances.

The Federal Reserve is in the middle of a tightening cycle – with a projected three rate hikes in 2018 and three rate hikes in 2019. This will take the Fed Funds Target Rate to 2.75-3.00%. Inflation remains an issue for the Fed – with inflation failing to meet the 2% target. Policymakers are continuing to grapple with the 2% target, with some concerned that the slower than expected inflation number is not transitory, but more fundamental. Powell has already commented, “We’ll have to be guided by the data as they come in, that’s what will dictate the path of our policy.”

Trump’s tax cuts will play a major part in the development of the economy. US Dollars should flow back into the US as corporations take advantage of the tax benefits. Theoretically – this should stimulate the economy, create growth, and fuel inflation – which may see the Fed need to take more aggressive action. For now, the Federal Reserve is taking a more modest opinion of the tax reform benefits.

Reducing the enormous balance sheet will be another major battle for Jerome Powell, who had reservations about the third round of quantitative easing. This could add to the tightening environment in the US.

All in all – the Federal Reserve is likely to continue to raise rates more aggressively than any other central bank in the world. This will fuel demand for the US dollar and should continue to prop it up as the year goes on. So what about other central banks?

The Reserve Bank of Australia and the Aussie Dollar

The Aussie dollar has had an unexpectedly strong start to 2018 and is now at levels that previously prompted jawboning by the RBA. The RBA is adverse to the high Aussie dollar, constantly warning that it makes inflation targets harder and could weigh on growth.

Economic conditions must be balanced by Governor Lowe in making policy decisions across 2018. New employment numbers are strong, but wage growth is weak. Business confidence and consumer confidence numbers are also at odds. The recent boost in commodities has not fed as yet into most recent trade balance which posted the first deficit in a year. The housing market has been slowing.

The mixed economic data warrants the ‘lower for longer’ or ‘wait and see’ approach from Governor Lowe when making policy decisions. Of the bulls & bears for the Aussie dollar, most agree we are on hold for a while as an RBA Interest rate hike isn’t coming until the 2nd half of 2018. This sets them behind the Federal Reserve in their tightening cycle and this means downside risk for the Aussie.

Aussie dollar traders will continue their infatuation with commodities, in particular, iron ore. The AUDUSD has a strong correlation with iron ore prices (and to a lesser extent other base metals). Much of the late 2017/early 2018 rally has been in line with rising commodity prices. However – Australia’s Department of Industry has already warned of an expected 20% fall in iron ore prices in 2018 given the expected contraction in the Chinese steel industry. The Aussie dollar sits more comfortably around the mid/low 0.70’s when iron ore sits in the mid 50’s – as shown in the chart below.

There are also concerns about the knock-on effects of a slowing housing market. Consumers feel poorer as a result (even if it’s only on paper). Businesses will be poorer (people won’t be inclined to furnish/deck out new houses impacting retail sales). The state and federal tax take could suffer. Then rising public debt and the commitment to infrastructure becomes a real concern.

Most major banks adopt a bearish view heading into 2018. Bears on the currency include a number of the major players, with ANZ, Westpac, NAB, Goldman Sachs and Credit Suisse all taking a bearish view. In the bull’s corner sits CBA, UBS & HSBC.

It’s Not All About Central Banks – Trump is Making America Great

One thing we’ve learned from 2017 is to expect the unexpected. We can expect more of the same in 2018. We’ve done our best to break down the themes.

The first major change from Trump’s administration is the tax reform, which was passed into law in late 2017. There are dozens of changes  (which can be hard to keep track of). The key changes affecting FX markets stem from:

  • the lowering of the Corporate Tax rate from 35% to 21%, and the increased corporate earnings
  • the incentive to repatriate US dollars to the USA
  • the 14% of CEOs who plan on making large, immediate capital investments
  • the addition of $1.46 trillion of debt over 10 years

Just how these changes play out are yet to be seen, but the consensus is that these will lead to an uptick in demand for the US dollar.

It is worthwhile checking in on the Trump-Russia investigation. The headlines continue to slam Trump yet the risk of impeachment remains somewhat distant. For now – it seems like a waiting game whilst the FBI continue to investigate links between Trump’s campaign and Russian interference. However – there is still a possibility this comes to a head in 2018 – and I don’t think anyone could predict how that would play out in markets. There is also a slim possibility of a coup through the execution of powers under Amendment 25 – but this is another highly unlikely scenario.

Trump may also be running out of time, with the possibility of the American public voting in a Democrat-led Congress that will challenge his every move.

Of course, there will be plenty of other curve balls provided by Trump in 2018, that not even the best crystal balls can pick up.

Will America Be Great (Economically Speaking?)

The jury is out. And there are plenty of spanners in the works. The latest (and final) reading of Q3 GDP in the USA came in at 3.2% – the fastest pace since Q1 2015. Growth in 2017 came from robust business spending and is now poised for what could be a modest lift in 2018 on the back of the new tax regime being ushered in.

Employment growth remains strong, with the Unemployment Rate firm at 4.1% and new jobs growth encouraging. Wage growth remains somewhat subdued.

Europe: What to Expect from the QE Program this Year

Europe is looking to pull back on their Quantitative Easing this year, and the interest will centre on how it goes about achieving that, and who will lead that process with Mario Draghi finishing his term as Head of the ECB.

With the ECB tightening their stance, now only buying 30 billion euros of bonds each month. The Euro could strengthen considerably – but economic data will have to support the tightening of policy and the ECB have reserved the right to extend beyond September if necessary.

Draghi, an Italian, is not eligible to serve again after his eight-year term, which ends in late 2019. Decisions to replace Draghi will be made well in advance.

The biggest threats to Europe and the European Union in 2018 (as cited by EU President Donald Tusk) included a more assertive China, an aggressive Russia, along with war/terror/anarchy.
There is also the messy divorce to consider – with Brexit negotiations continuing.

Britain, Brexit, May

The world will be watching to see how the UK and Europe settle Britain’s divorce from the EU. The main questions will be:

  • How will Brexit impact the UK Economy?
  • Which sectors will be impacted the most, and what are the timeframes expected for the separation?
  • Will Brexit change the way business is done in Britain, and will it open up more markets?

So far – Britain’s economy has weathered most of the negative forecasts. But the fact remains that Britain must leave the EU by March 2019. Teresa May has secured the bones of a Brexit deal (and probably secured her job for the foreseeable future), but there is still so much uncertainty and we can expect volatility to continue.

Curve Balls from Afar


China will continue to grow at 6.5% or more, especially with the Chinese authorities ‘smoothing’ the numbers. Manufacturing costs in China will also continue to rise. A trade war with the US is in the cards.


The Bank of Japan will continue with its ultra-loose monetary policy. It is highly unlikely they will move rates in 2018. However, by the end of 2018, they may indicate their intentions to tighten their current stance and this would benefit the Yen – the adage of ‘buy the rumour, sell the fact’ could come into play.


Prime Minister Modi may make additional aggressive plays, like his move to ban high-value bank notes in efforts to curb corruption. This could include a shake-up for wealthy Indian property owners who hold property in other people’s names but may extend to currency markets.

North Korea vs the USA

North Korea will probably not go to war with the USA or the West (or they will face obliteration, as Trump puts it, quite correctly). However – we can expect the rhetoric to continue to upset markets and add to a risk-sensitive environment.


The headline-grabbing Bitcoin will not become the global currency of choice. As a decentralized “currency”, its value is determined by ‘traders’ and ‘supply/demand’. Its volatility will remain extremely high with no mechanism to protect against ‘bubbles bursting’. Quite simply, it is not suitable for businesses to use on tangible trade.

Banks and FX Service Providers will have almost no scope to offer services in Bitcoin, as we’re heavily regulated and need to ensure compliance with Anti-Money Laundering and Counter-Terrorist Financing legislation – making trading in Bitcoin for import/export very difficult.

Cryptocurrencies and Blockchain

Other cryptocurrencies will likely face a similar fate – even those with centralised mechanisms (such as Ripple). Businesses simply cannot cope/operate with such high risks.
However, the blockchain technology (underpinning cryptocurrencies) will continue to expand and challenge the way markets operate – forcing central banks and the financial services industry to evolve.

Equities, Treasuries & Oil

Equity markets, including both the Dow Jones and S&P 500, are continuing their strength early in 2018. Whilst many believe an equity bubble is forming, others argue that Trump’s tax cuts will continue to support record growth in equities. Liquidity remains high to protect against shocks, but there is a sense of caution after equity markets went through 2017 unscathed (unlike in 2007 – GFC; 1997 – Asian Crises; 1987 – Market Crash).

The Fed is projecting to raise rates dramatically in 2018, and continue with unwinding QE. But Treasury yields might lag behind in 2018, with inflationary pressures still failing to shift treasury yields.

Oil prices have risen dramatically over the past month, with the prices rising on all the major oil indicators. Most analysts and experts are predicting this to continue – with many expecting to see oil at USD $70 a barrel again, if not higher.

Football World Cup

The top five contenders, in order, are Germany, France, Brazil, Spain & Argentina. It’s hard to see anyone else winning. Australia has a particularly tough road in the finals. First up they face France, followed six days later by Denmark. Then they face the might of Peru (who even managed to squeeze out New Zealand in the qualifiers). But with odds as long as $251 to one it is hard to deny a bet on the great sporting nation’s soccer football team.

Find out how the EncoreFX team can help with your FX Strategy

The key themes outlined above mean there is a high likelihood of volatility in 2018. The EncoreFX team are experienced in helping you navigate the challenges faced in managing FX risk. If you want to fast forward your business’s FX Strategy, contact us today at your nearest branch, or call our Sydney team on 1800 874 942. You can also contact the authors directly at the numbers below.

Phil LynchCorporate Hedging Director – Asia Pacific

Rhys Miles – Senior Foreign Exchange Dealer – Sydney

Steve Oram
Senior Foreign Exchange Dealer – Brisbane

Rowan Murphy – Senior Foreign Exchange Dealer – Melbourne

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