How U.S. dollar, trade talks are affecting currencies

U.S. tariffs are impacting a number of currencies, including the greenback, says Luc de la Durantaye, head of asset allocation and currency management at CIBC Asset Management.

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Trade issues “have had a negative impact on some of these currencies relative to the U.S. dollar, and the U.S. dollar has been stronger than we expected in the first half of this year,” said de la Durantaye, who manages the Renaissance Optimal Inflation Opportunities Portfolio, during a July 4 interview.

As of Aug. 7, the U.S. Dollar Index had risen from US$91.87 to more than US$95 this year. Conversely, as of Aug. 3, the loonie was trading just below its six-month average of nearly US$0.78, at US$0.7702, after hitting a 12-month low of US$0.75 in late June.

Meanwhile, several emerging market currencies have suffered from depreciation due to the Fed’s monetary tightening.

The U.S. has imposed tariffs on multiple trade partners, including Canada, Mexico, China and the EU, all of which have introduced retaliatory tariffs.

Tensions with Europe have decreased somewhat since a July 26 meeting between President Donald Trump and European Commission President Jean-Claude Juncker. Tensions between the U.S. and China, on the other hand, continue to rise as the Trump administration has threatened higher tariffs on Chinese goods, prompting retaliation threats from China.

Read: What might cause trade tensions to ease

Depending on how trade talks develop, de la Durantaye doesn’t expect the U.S. dollar will be able to maintain its strength. The recent rally has made the greenback expensive, he said, which makes it harder to “meet the objective of the U.S. administration to improve trade. A stronger dollar makes U.S. exports more expensive, so if anything it reduces exports and increases U.S. imports.”

He predicts that further strength in the U.S. dollar “will probably be met with a cooling effect from the U.S. administration and maybe also the Federal Reserve, [if] a stronger dollar is tightening financial conditions.”

On Aug. 1, the central bank kept its key rate unchanged, at 1.75% to 2%, but signalled future hikes as it highlighted inflation, the labour market and strong economic activity.

Read: Finding balance amid worldwide QE slowdown

Though it hasn’t happened yet, de la Durantaye predicted the greenback’s rally could start to reverse by August.

He forecast the loonie would remain within a “trading range,” due to tight labour markets “that will keep the BoC on its guard” and lead to gradual rate hikes. In July, the central bank raised the trend-setting interest rate to 1.5%, its fourth hike in a year.

Read: BoC raises key rate, says existing tariffs to have modest impact

Oil prices, in early July, were also supporting the loonie “from a net export perspective,”de la Durantaye said. At that time, WTI crude was trading around US$74 while Brent crude was trading around US$78—they’re now trading around US$69 and US$74, respectively.

“Obviously there’s a cloud over the Canadian dollar related to the trade dispute, or trade risk,” he said, creating positives and negatives.

“It will be difficult for the [loonie] to rally against the U.S. dollar,” in this environment, he said.

International currencies

By early July, some emerging market currencies had been sold off, de la Durantaye said during his interview, leading to some being undervalued. “We do not expect these currencies to continue to depreciate from here,” he said.

With the U.S. dollar overvalued, the yen and euro were undervalued. But if the greenback peaks and dips as he expects, the tables could turn for those currencies.

Also, “If the global economy, as we suspect, continues to grow over the next 12 months, then the BoJ and the ECB will continue to remove accommodation. Then, from a relative monetary perspective, that might favour the yen and euro, relative to the U.S. dollar,” said de la Durantaye.

Plus, the yen may benefit from additional trade tension that causes “positive safe-haven currency flows. So we would favour having in a currency portfolio the yen as a hedge against this uncertain trade environment.”

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