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Fed And The FX Markets: Tainted Carry



  • The Fed has acted reasonably quickly in cutting rates 50bp.
  • The Mexican peso, the darling of the EM high yield world, briefly enjoyed a 2% rally against the dollar.
  • It looks premature to be buying the dip in high yield FX.

By Chris Turner, Global Head of Markets and Regional Head of Research for UK & CEE

The Fed largely delivered on expectations with an emergency 50bp rate cut this Tuesday. The dollar was initially weaker across the board, with high yield FX performing strongly. However, a very uncertain equity environment means that volatility will stay high and it looks too early to be jumping back into carry trade strategies

Fed largely delivers in Round One

The Fed has acted reasonably quickly in cutting rates 50bp. As James Knightley writes, this may well be the first of perhaps a three-stage easing cycle that will ultimately be worth 100bp. The DXY had already fallen 2.5% over recent days and today we did not see that much follow-through selling of dollar against the EUR and the JPY.

The larger dollar selling in the G10 space came against the activity currencies of AUD and SEK on the view that reflationary Fed policy (steeper yield curves) would kick start an economic recovery. That view looks premature, however. It is very unclear how far Covid-19 will spread and its impact on activity – proving both a supply and demand shock.

And like most financial products, the FX market is wary that the Fed’s medicine will only provide temporary relief to global equity markets. Our team is very cautious on risk assets and believe the Fed will be called again into action over coming quarters. We see EUR/$ moving to 1.15 and $/JPY to 105 over coming months, with volatility staying high.

Too early to re-enter the carry trade

The bigger FX moves on today’s Fed cut came in the high yield EM space. The Mexican peso, the darling of the EM high yield world, briefly enjoyed a 2% rally against the dollar, with other high yielders, such as RUB and ZAR, following

Bloomberg, ING

This article was written by

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