“New” Divergences
Non-USD bonds get an upgrade to start 2016, our sole change to begin the year. Significant dollar appreciation as well as appreciation expectations provide a more balanced outlook for FX returns (a significant detractor in 2015). More accommodative monetary policy abroad furthermore raises the attractiveness of non-USD investments for 2016. Figure 8 below captures the notions of a more uncertain outlook for the dollar in 2016. Recall that the “divergences“ theme in 2015 was a consensus view that diverging monetary policy with the Fed tightening while the ECB and the BOJ expanded their accommodation would lead to a stronger dollar. While that played out in 2015 with the trade weighted dollar increasing by 11.8%, in 2014 it had already increased by 10.5% anticipating those divergences. Hence, as we look ahead to 2016 much of the divergences expectations could be argued to already be in the price. The figure supports this notion by highlighting how in many past tightening cycles, the peak of dollar appreciation was marked by the first tightening in a currency version of “buy the rumor, sell the news” outcome. However, in the big dollar valuation cycle of 1980 we saw substantial further valuation improvement after the Fed tightened. The historical record is thus mixed when it comes to the dollar outlook. “Divergences” alone is unlikely to provide the same fuel for dollar appreciation as in past years, leaving a more balanced view for non-USD fixed income investing for dollar based investors relative to past years.
There Will Be Blood … And More Of My Favorite Themes For 2016
January 28, 2016
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