Key macro themes to watch in 2014

While this subject is broad, a few major themes to keep an eye on this year will be US growth and the impact this has on global fixed income markets and the USD, rising debt levels in China (especially around the leverage in the corporate sector) and the actions from authorities to limit the supply of credit into the real economy.

Japanese inflation and ‘real’ GDP growth will also be in focus, and while short JPY was the trade of the year, replicating these trade-weighted moves will be hard to come by. Also the rising anti-EMU (European Monetary Union) political issues in Europe, while disinflation forces in this region will also be of interest.

All of these scenarios could be explored in significant depth, though the two standouts for 2014 remain US growth and the measures imposed by Chinese authorities to control debt levels and limit credit.

As always, these issues may be in the forefront of traders’ mindsets, but may ultimately fail to actually materialise into anything negative. However, if they do, traders need to be fully aware of the currencies that will be most impacted by the unfolding events, so a good understanding of volatility and how to use this effectively will be of great benefit.

The US dollar

The long USD seems to be the consensus trade for 2014 in the market, although USD/CNY could continue to grind lower.

From a purely fundamental aspect, there are a number of factors that suggest the USD could perform strongly this year.

Firstly, from a growth standpoint, global GDP should average around 3.5% this year, with the US expected to be at the epi-centre of this growth. With politics in Washington showing a more constructive stance in recent times, and some of the austere measures abating in the second half of the year, the US should grow between 3 to 3.5%. Mix in a falling current account deficit and a very compelling shale gas revolution, and the US should outperform on a relative basis against other G10 nations.

Future Fed movements

On a monetary policy basis, we’ve already seen the Federal Reserve cut the pace of its bond-buying program by $10 billion a month. However, for the USD to continue finding buyers we need to see continued economic improvement here, and most importantly a rise in inflation expectations.

This will have the market questioning the credibility of the Fed’s forward guidance for putting up its funds rate, with most in the market expecting the first rate hike to materialise in late 2015. If core PCE (private consumable expenditure — the Fed’s preferred measure of inflation) gravitates closer to 2%, while employment trends below 6% and growth holds at 3%, could we see rate hikes this year? If we do see the market test the credibility of the Fed’s current guidance, this could see the USD rally strongly.

With other central banks outside the Federal Reserve continuing their accommodative stance, and in some cases highly (think BoJ) accommodative stance, the risk this year is that we see a stronger USD, especially if US bond yields move aggressively higher than the likes of Germany, the UK and Japan.

Emerging market currencies in 2014

Could the emerging market currencies fare better in 2014?, Certainly there are traders who have expressed they are looking more constructively at the space, although being selective seems the way to go. Currencies that run high current account deficits and have limited growth initiatives are still likely to be sold against the USD, though we may not see the sort of moves we witnessed in 2013.

Countries like Mexico, Turkey, Indonesia, Nigeria and India still have risks, while Korea and China should fare much better. Although, at the time of writing the Korean won looks overvalued and could pullback. Naturally the renminbi is in a different position, and should sustain the strength we saw through 2013. The PBOC continues to use the local currency as a policy tool to contain hot money inflows, which can impact the levels of credit that we know is something authorities are trying to limit.

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