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Michael Sager, vice-president, multi-asset and currency management at CIBC Asset Management.
Growth expectations are definitely improving and have been improving for a number of months now. And that’s been the primary driver of the move higher in bond yields, both from the perspective of what it implies for real growth — so real yields — but also what it implies for inflation. Both parts have been moving higher in the context of gathering positivity around the outlook for the global economic recovery. So it’s important to think what that has meant for global currencies: which currencies have benefited and which currencies have not benefited or been adversely affected.
The main beneficiary has been the U.S. dollar. Really reflects the fact that lots of the additional positivity around the outlook for global growth has focused on the U.S. with the accelerated rollout of vaccines, with the Biden administration’s significant fiscal stimulus. These have all improved the outlook for growth and inflation in the U.S. economy. And at the start of this move higher in growth expectations and bond yields, it led to a sense of — to use the market phrase — U.S. exceptionalism. So the U.S. was leading the charge in terms of growth revisions, the U.S. bond market was leading the charge in terms of the move higher in bond yields. And this all supported the U.S. dollar longer term; in factors which are driving the dollar higher in the short term will also mean that the dollar weakens more in the long term. Fiscal stimulus is positive in the short term, but it means that the fiscal deficit, the current account deficit of the U.S. economy long term, will be that much bigger. That’s a negative long term for the dollar. So it’s a tale of two horizons.
The main losers have been those currencies, predominantly in the developed markets, where there’s an expectation that yields won’t rise that much — that yields are being pinned down right along the yield curve by policy-makers. So here, I’m thinking about Japan and the Japanese yen. I’m thinking about Switzerland and the Swiss franc and also the euro. So these are the countries where currency values are losing out relative to the U.S. dollar.
The emerging markets is a little bit more mixed. When we look across the EM universe, we see a number of currencies in countries where fundamentals have appreciably improved over the last couple of decades, where policy credibility has significantly improved. And those currencies might’ve sold off a little bit in the short term, but longer term remain fundamentally attractive.
The outlook for oil remains fundamentally positive because of the outlook for growth. And that will keep a bid to the Canadian dollar against the U.S. dollar. So in the short term, certainly the Canadian dollar could rally against the U.S. dollar by perhaps as much as another 3% to 5% from levels at the end of March. More broadly, we don’t think the Canadian dollar is one of the most attractive currencies in the long term. Think about the long-term fundamentals that drive currency valuation. It’s about productivity. It’s about debt levels. It’s about the outlook for current account balances. And here, although the Canadian economy, it looks fairly similar, maybe slightly better than the U.S. economy, compared to the most attractive countries and currencies in the emerging markets — and here I’m thinking about China and the Chinese renminbi or the Russian ruble or the Indian rupee — against those sorts of currencies, the fundamental outlook for the Canadian dollar is not particularly attractive.
So over the next few months, we certainly see some more upside for the Canadian dollar against the U.S. dollar, but more broadly when we survey the currency landscape, we think there are much more attractive long-term opportunities to invest in currencies elsewhere rather than the Canadian or the U.S. dollar.