How to win the Currency
War? 23 February, 2013.
The music has
stopped and this time, EU has stolen the chair from the UK. The media, economists and hedge fund managers
are now saying Sterling should be weaker due to a sleepy economy, broken
banking system and a no way out government budget. Sterling has been falling
from USD 1.6293 before Christmas to USD 1.5131 as of 22 February. That’s a 7.1% drop which is a fair amount
even compared to USD/JPY 11.9% drop in the same period. What does this mean?
Let’s look at the
weakening of Yen as an example. The
Japanese Prime Minister Shinzo’s Abenomic campaign is asking for a weaker Yen
and lucky him, he got exactly what he asked for. Abe has learnt a few tricks from Helicopter
Ben in US and Draghi’s “Whatever it takes” tactics in Europe. A weaker Yen has injected steroid to the
Japanese stock market and Nekkei 225 went up from 10,000 level to 11,400
level. Hang on, Nekkei 225 is in
Japanese Yen which has weakened against USD by more than 11% and GBP by more
than 4% in the same period. So for those
who invested in Japan Fund, the Japanese is laughing, the British is smiling
and the American is unmoved.
In a Currency War,
governments or Central Bankers try to weaken their own currency to improve
their export competitiveness and “earn” foreign money. A trick that the West has accused the Chinese
for a decade to turn everything in their household “Made in China”. Or if you look closer to home, the weaker
Euro since Financial Crisis has helped German car makers to dominate the
world. (But why not the French car
makers?)
A weaker currency to
a country is similar to an individual worker accepting a salary cut. It will make the individual more attractive
to hire assuming he has competitive skills.
For a product or a skill that is non competitive, a discount may not be
enough. So Toyota car going on discount
may make consumers choosing them over Volkswagen. But Fujifilm offering a discount on its old
stock is unlikely to convince digital camera users to buy film.
Will a weaker
Sterling improve UK’s economy?
Should be good for Harrods,
Selfridges and other tourists driven business, a weaker Sterling could mean
more customers. Not great for foreign
workers in UK as their Sterling is now worth less at home. ASDA will be tempted to increase wine prices
as these wines are imported from Europe, US or Australia. A side effect of a weaker Sterling is
inflation. The Government has already
safe guarded property market to make it punishingly expensive for foreigners to
buy luxury properties. Unfortunately,
the bread and butter for everyone is likely to get more expensive. If a weaker Sterling does not create job, it
is likely to hurt the unemployed and the retired.
For those who do not
need to worry too much about the bread and butter, but have Sterling saving or
asset such as property or gilts, they have to either hope their Sterling
investment return can beat inflation or they could consider getting out of the
Sterling. Switching to US Equity Fund from
Sterling investment is pivoting move, hoping for the US stock market to go up
or at least outperforms Sterling against US Dollar. If one’s Sterling investment is not possible
to sell such as investment in SIPP or ISA, trading Foreign Exchange to long US
Dollar and short Sterling to cover the notional value of the Sterling
investment is an efficient hedge. Please
consult your financial advisor or bank on such Fx transaction. If you have not traded leveraged Fx before,
maybe you do not want to start.
Since the financial
crisis, the American, European and Japanese central bankers are all printing
money and distorted the bond and foreign exchange market. Sending bond prices up and swinging Fx. More importantly, the hedge funds all focus
on liquid assets and government bonds and currencies perfectly fit the
bill. Hedge Funds’ herd action may have
exaggerated market trend in both speed and magnitude as we have seen in the
sharp fall of Yen and Sterling against US Dollar in the last 3 months. Currency War between the big boys (US, Europe
and Japan) is a round the world roller coaster ride that eventually goes back
to where you start. One cannot erase nor
conquer the other. But the ride could be
years or decades as we have seen since in EUR from its date of birth to today. For most people, it is not about making money
from Fx swings but to survive them. Business
that import goods in USD, EUR and JPY, and sell in UK to earn Sterling are used
to deal with the currency roller coaster.
Many people ask if they
should buy Gold as its price has fallen to below USD 1,600 per oz. My personal view is that Gold has become more
of a tool for investment portfolio diversification but not a very effective
hedge against inflation. Many investors
are looking for yield (coupon from bonds or dividend from stocks) and Gold does
not offer that. Another asset class that
we need to get more cautious is the High Yield Bonds issued by corporates and
government from Emerging Markets. These
bonds have rallied a lot in the past 2 years and got to the point that the
coupons they pay may not justify the risk for the bond holders. It is hard to be a happy investor but with
bank deposit yielding nothing, investing is becoming a compulsory hobby.
