US Preparing to Hike Rates, Yet Dollar Dives; Global Market Expectations Shift

Many fund investors do not pay much attention to the fluctuations in exchange rates, thinking that as long as they keep an eye on the stock market, everything will be fine. They fail to realize that changes in exchange rates are not only related to the returns of foreign exchange investors but also have an impact on the returns of fund investors.

Take this Wednesday, for example, something unexpected happened that caught many investors off guard: the US Dollar Index suddenly plummeted. On Tuesday, the US Dollar Index closed at 95.59, but by Wednesday, it had dropped to 94.99. There was a significant gap between the two closing values.

The sudden devaluation of the US dollar against the currencies of several major countries, what impact will this have on our investments? Is this devaluation a phase or just temporary?

01

It is well known that the main investment directions of funds are bonds and stocks. Most fund investors buy equity-oriented funds, so the ups and downs of the stock market have a significant impact on the changes in the net value of the funds.

Precisely because of this, many investors do not pay much attention to the changes in exchange rates, thinking that exchange rate fluctuations are only related to foreign exchange investments or are relevant to those who enjoy overseas shopping and traveling abroad.

In fact, changes in exchange rates mean that the supply and demand relationship between the currencies of different countries has changed.

For example, if the US dollar continues to appreciate, it will cause international capital to flow back to the United States. For emerging countries, capital outflow will definitely lead to a decline in housing prices and the stock market.

Currently, the Federal Reserve is continuously reducing its bond purchases and may start raising interest rates in March this year. These factors will lead to the appreciation of the US dollar and also pose a risk of a potential decline in emerging markets. In the second half of 2021, the significant devaluation of many countries' currencies and the significant fluctuations in the stock market were related to this.

Once we understand the impact of exchange rate changes on the global stock market, it naturally becomes clear why we also need to occasionally pay attention to the changes in the US Dollar Index.Before this, the US Dollar Index had already shown a certain increase, which is the appreciation of the US dollar.

In May 2021, the US Dollar Index was still below 90, but now, just half a year later, the US Dollar Index has reached above 96 during this period. This round of appreciation is everyone's advance reaction to the Fed's reduction in bond purchases and interest rate hikes. However, on Wednesday, the US Dollar Index suddenly dropped to 94, which was a bit surprising.

Because the continuously released data shows that US inflation is getting higher and higher. Now the discussion is not whether there will be an interest rate hike this year, but how many times there will be interest rate hikes this year.

Previously, many people predicted that there would be three interest rate hikes this year, and recently, J.P. Morgan's exaggerated forecast reached 6 or 7 times.

Under these circumstances, it is very normal for the US dollar to continue to appreciate. Therefore, the sudden depreciation in recent days is considered to be a depreciation first, leaving room for further appreciation in the next step.

But I think this short-term depreciation is very likely to come from another reason.

03

Let's review the rise of the US Dollar Index in the past half year, which is actually an advance prediction of some actions that the Fed is about to take.

In May last year, the US Dollar Index was still below 90, but the market had already started to predict that under the influence of inflation, the Fed would reduce the monthly bond purchase scale, and it might even raise interest rates.Of course, the expectation of interest rate hikes at that time was for the year 2023. If there was a reduction in debt and an increase in interest rates, the US dollar would inevitably appreciate. In this scenario, the market reacted in advance, and the US Dollar Index slowly moved upward.

Similarly, the sudden drop in the US Dollar Index in recent days may also be an advance reaction to the future market.

Although it is widely believed now that the Federal Reserve will continue to raise interest rates, some people have also noticed that there are many unstable factors in the data on the US economic recovery, and the rising inflation data may slowly decline in the following months.

Under such circumstances, whether the Federal Reserve can still raise interest rates as scheduled has become a question.

The investment market often reflects the real changes in future market data in advance, so it is not ruled out that the sudden devaluation of the US dollar in this period is an advance reaction to the difficulty of raising interest rates in the future.

04

During the process of the US Dollar Index falling this week, we have seen that the offshore exchange rate of the US dollar against the Chinese yuan has also changed synchronously, and the Chinese yuan has been continuously appreciating in this week.

The highest this week was 6.38, and the lowest dropped to 6.34.

As mentioned earlier, the US Dollar Index has been continuously rising in the past half year, which means the US dollar has appreciated. However, when we look at the exchange rate changes of the US dollar against the Chinese yuan, we find that in the same half year, the Chinese yuan has appreciated against the US dollar.

In other words, while the US dollar is appreciating, the appreciation rate of the Chinese yuan is faster.For many emerging markets, the current biggest concern is that if the United States raises interest rates and the dollar continues to appreciate, there will be capital outflows. However, for China, this issue is not significant.

On one hand, we have relatively strict capital controls in place. On the other hand, the renminbi is still slowly appreciating. Not only do we not have to worry about capital outflows, but the various data we can see indicate that foreign capital is continuously entering the Chinese market to purchase our bonds or stocks.

Therefore, for a period of time in the future, we do not have to worry about capital outflows affecting our stock prices. However, looking at a more distant long-term perspective, this is still a problem.

Because if the United States raises interest rates multiple times and the interest rates rise, it may coincide with the need for our country to lower interest rates. After the interest rate differential between the two countries further narrows, whether there will be a reverse flow of capital is hard to say.

In summary, for fund investors, paying appropriate attention to exchange rate changes can be of great help to our investments.