Euro, Dollar, Pound, Yen: Pair Them Up and See Their Volatility
The slowdown in China and devaluation of the yuan
The recent slowdown in China caused by a lower demand worldwide has led to a sell-off in equity markets in the emerging economies. China has been reducing its imports from Asian and Latin American countries in order to reduce unsold inventory held by the country’s exporters.
The devaluation of the Chinese yuan by the PBOC (People’s Bank of China) has caused a currency war brought on by competitive devaluation. Investors are seeing the scenario as a slowdown in the manufacturing hub of the world, thus increasing demand for gold and other safe-haven currencies such as the Japanese yen.
Reversal in carry trade
Foreign investments have been flowing out as institutional investors are indulging in the reversal of the carry trade. The carry trade was earlier seen as a lucrative opportunity. Investors borrowed funds at a lower interest rate from the Eurozone and parked them at higher return countries, particularly the BRIC (Brazil, Russia, India, China) nations and other developing nations.
However, with severe volatility hitting the debt and equity markets, investors began placing their money in developed economies, including countries that are part of the Eurozone. This increased the value of the euro.
Fall in crude and commodity prices
The fall in crude oil and other essential commodity prices has led to lower export revenue for exporting nations. Lower crude prices globally were caused by an increase in the production supply maintained by OPEC (Organization of the Petroleum Exporting Countries). OPEC did this to increase its market share internationally. This led to cheaper oil and oil products for oil-importing nations.
These factors have been important in keeping inflation levels low throughout the Eurozone. This has been a concern for ECB (European Central Bank) president Mario Draghi. He recently stated in a policy meeting that the ECB will not surrender to the low inflation rates and will act to counter the sluggish price levels.
An increase in the easing program is expected to lead to further losses in the euro–US dollar currency pair. The ProShares Ultra Bloomberg Crude Oil ETF (UCO) and the Vanguard FTSE Europe ETF (VGK) have had huge losses following the fall in crude oil prices. Also affected are oil-producing ADRs (American depositary receipts) across Europe such as Eni SpA (E), Total (TOT), and Statoil ASA (STO).
In the next part of the series, we’ll look at the major movers of the US Dollar Index, including the euro, the yen, and the pound.
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