Currency Clash: Race to the Bottom Accelerates

By Charu Chanana, Head of FX Strategy, Saxo Bank

Even as the US economy stays resilient, the race for rate cuts is intensifying, setting the stage for significant shifts in the global foreign exchange markets. Here’s a breakdown of what to expect in the coming months:

US Economic Exceptionalism at a Crossroads

The US economic data has continued to surprise the upside. However, US economic exceptionalism could start to fade in Q2 amid European stability and China’s gradual recovery.

Competitive Pivot Drives FX Markets

With markets not anticipating rate cuts from the Federal Reserve until H2, attention turns to how other central banks will respond. The ECB, in particular, faces pressure to match these cuts or risk a hard landing. This competitive pivot dynamic will dominate FX markets in the second quarter.

Opportunities in Currency Pairs
● Euro (EUR): Speculative positioning in EUR has decreased, but stabilising Eurozone economic conditions could support a drift higher, especially with the potential for ECB rate cuts.
● British Pound (GBP): GBP long positions are at multi-year highs, but signs of disinflation may prompt increased expectations of Bank of England rate cuts, potentially pushing EURGBP higher.
● Australian Dollar (AUD) and New Zealand Dollar (NZD): Both currencies are set to outperform as their rate cuts lag behind the Fed and the ECB. Additionally, AUD benefits from China’s policy loosening efforts and broad USD weakness as US exceptionalism fades.
● Japanese Yen (JPY): The BOJ’s pivot away from negative rates has implications for carry trades, potentially leading to yen appreciation. However, the BOJ’s cautious approach to normalisation may limit the yen’s strength against the US dollar.

Navigating the FX Landscape

Tactical positioning and options plays may be preferred in uncertain currency movements. Considerations like minimising carry bleed and hedging exposure to Japanese equities should be part of any FX strategy in the current environment.

As the rate cut race shifts into high gear, traders and investors should closely monitor central bank actions and economic indicators to capitalise on emerging opportunities in the dynamic FX markets.