Inflation and Rising Rates Shape FX Outlook
The evolution of the US dollar, or the “big dollar” as Luc de la Durantaye calls it, is complicated to predict “because the engines go in opposite directions”.
From a monetary policy perspective, the Federal Reserve is ahead of some other central banks in its tightening trajectory, said de la Durantaye, who supported the U.S. dollar earlier this year. Many analysts expect the Fed to raise interest rates three or four times this year.
However, de la Durantaye said fundamentals suggest the US dollar is overvalued. Inflation is higher in the U.S. than in many other places, which he says will likely push the dollar down as “Long-term high inflation usually depreciates a currency.”
For this reason, he predicts that the US dollar will trade higher at the start of the year, but as politics evolves, the dollar could peak and then retreat.
In contrast, de la Durantaye said the Canadian dollar is “interesting” because not only will the Bank of Canada also raise interest rates, but the Canadian dollar is supported by rising commodity prices.
At the start of the year, the Canadian dollar could jump to around US$0.82, he said (the loonie was trading below US$0.79 on Wednesday after the Bank of Canada left its rate unchanged). overnight interest). But the loonie is likely to retreat to around US$0.76 later in the year as the global economy slows, especially if commodity prices “recover” and the Bank of Canada eases its tightening.
Globally, a number of currencies have depreciated in 2021, which de la Durantaye says can be an attractive entry point for investors. For example, the Russian Ruble, Brazilian Real, and Mexican Peso all offer very high interest rates.
“Their central banks tightened long before the Federal Reserve and so they offer high carry and undervaluation, which are potentially attractive as investments for 2022,” de la Durantaye said.
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