The transition period between 2023 and 2024 is setting up to be a pivotal time for the markets, and currency markets in particular. Last year, Forex was dominated by central banks across the board tightening rates in order to get inflation down. By December, the trend had entirely shifted to a holding pattern.
Central bankers were and have been talking about monitoring the data, and not letting their guard down as inflation is still above target. Markets, on the other hand, are looking further ahead and speculating when rate cuts will start. Of the major central banks, most are expected to start easing at some point this year. The debate over when that will happen is likely to be the driving force for currencies over the next couple of months.
The main exception to that trend, naturally, is the BOJ. There, markets are anticipating when the move will be towards tightening. The yen had been weakened substantially over the last couple of years as investors piled back into carry trading. In the decade following the Great Financial Crisis, low interest rates around the world had caused carry trades to fall out of favor. The volatility in interest rates, inflation and monetary policy recently has brought the phenomenon back into play.
But, if central banks once again move to bring down interest rates, then the market dynamics will likely shift again. Higher interest rate currencies could lose the benefit of carry trades if their central banks start cutting. The result could mean a larger swing in currencies as the carry trades of the last couple of years are unwound.
The greenback had been one of the largest beneficiaries of the central bank tightening trend. That was because the Fed was among the most aggressive central banks, and there were constant fears that the world would be pushed into a recession. Now, investors are betting that a “hard landing” has largely been avoided. And the Fed admits to being open to cutting rates next year if inflation comes down.
The yield on the ten-year benchmark US treasury has been drifting lower for months, and the dollar has been slipping with it. Other yields have been falling as well, which has helped contain the slide in the dollar index. Barring unforeseen circumstances, such as a major reversal in the markets, or substantial problems for the government financing its debt, a weaker dollar could be a theme this coming year.
The flip side to a weaker dollar is generally good for emerging markets and commodity currencies. But, that implies that the world will escape a global recession, so that emerging markets will see an upside in demand. Here, the key is China.
As the world’s largest importer and exporter, China has an outsized impact on Forex. If its economy manages to finally rebound, then this could further weaken the dollar and boost commodity currencies. But, so far, preliminary forecasts are for another year of slow performance in the Asian giant. That could mean that as far as currencies go, next year it could be that it’s not about which does the best, but which does the least worst.
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- Source: https://www.orbex.com/blog/en/2023/12/forex-trends-to-look-out-for-in-2024
