The USD Php at 50 and the FED

The USD-Peso broke beyond the 50 level for the second time this year.

 

Mainstream media and officials tell the public that this had mainly been due to the “hawkishness” by the FED.

But financial markets are supposed to be anticipatory.

The US FED has raised rates THRICE in the last seven months (December 2016, March 2017 and June 2017), yet the USD-Php hardly reacted in the way it should IF it were truly the FED that had mainly driven it.

And such domestic reaction has further been amplified by the region’s performance.

 

While it may be true that most of the region’s currencies were weaker this week (upper left chart), it seems hardly the case where the FED’s string of tightening measures had led to a stronger USD (upper right chart).  

In fact, Asia’s “race for yields” where the region’s stock markets have caught fire appears to have contradicted the FED’s actions.

A FED tightening, theoretically, should have filtered into the region’s currencies, and likewise, should haveconstricted such yield chasing phenomenon.

But that’s not what has been happening.

Instead, Asian currencies have firmed up and have fueled stock market levitations in the region (bottom chart).

And it has more than just been stocks.

There has been a record issuance of Asian perpetual bonds at extremely low coupon yields. A Bloomberg article notes that this may signify “Flash Risk Warning for Asia”. Also, demand for Asian junk bonds have also been on fire (yes at record too), where bond investors are supposedly “sacrificing safeguards in their chase for yields”

In other words, financial markets have largely ignored the FED’s actions and perceive the current environment as undergoing further easing.

It’s a case of self-reinforcing feedback mechanism between profusions of liquidity spawning speculative excess and vice versa.

As a side note, in the US, market actions have defied the FED: there has been a massive flattening of the yield curve, Commercial Industrial loan growth has also slumped to 2% in May, oil prices have dropped to below $45 ($43.01) and commercial real estate prices appears to have peaked. All these in the face of record high stocks!

This brings us back to the peso.

The FED has been tightening alright, but the BSP last week maintained its record lowest rate in history. Naturally, such policy asymmetry should entail that the peso should weaken. And inflation strains from these would mean that the BSP would eventually have to tighten.

In addition, the government’s fiscal data showed that fiscal deficits ballooned to Php 33.421 billion last May.

Whether the month’s deficit has been financed by borrowing from the credit markets or by the BSP’s monetization, we will find out as soon as the data gets published.

If financed by the BSP, which is inflationary, then the peso’s current conditions may reflect on such actions.  It would not be the case if the government financed this through the debt markets.

As previously explained, the BSP bankrolled the government’s record deficit in 2016. Yet to constrain real economy price pressures, the government shifted to debt financing early this year. (Oh My, Has the BSP Commenced on Tightening??? June 4, 2017)

Outside the BSP, it is the banking system that principally determines the liquidity conditions.

The point here is that although the FED does play a role, domestic policies mainly determine the exchange rate conditions.

I remain bullish the USD Php.

 

And, if there should be an external force contributing to the USD Php, it looks more about the yuan whose correlations with the USD-Peso have strengthened since 2014

My guess is that lots of dollar sourcing and flows into the country may have emanated directly or indirectly from China.

 

With the USD peso at 50 compounded by the week’s mitigated correction, the above represents an update of the Phisix priced in USD.