Dollar set for long roller-coaster ride

Since November, the dollar had risen from 30.50 to 31.80 against the baht – an appreciation of around 4 per cent and quite a meaningful rise given how range-bound the dollar had been against the baht last year. Exporters and importers have begun to wonder if the bearish dollar trend is over. After all, the dollar tested the support level of 29.50 against the baht twice, and failed to break lower. 

The driver for the direction of the dollar, and conversely the baht, continues to be dominated by external factors, predominantly the debt situation in Europe. The Q4 rise in the dollar was down to heightened concern over if and how the euro zone would resolve its debt crisis. The dollar was oscillating in a very tight range, reacting to news coming out of Europe. With positive news on the debt issue, the dollar drops. With negative news, it rises, as the dollar is perceived as a safe-haven currency in time of heightened risk to the financial system. Overall, Q4 of 2011 coincided with heightened euro-zone debt concern, as politicians and policymakers were unable to decide on a direction towards resolving the issue. The fiscally stronger euro-zone nations were unwilling to support/subsidise their fiscally weaker partners. Troubled European countries’ politicians were procrastinating in negotiating debt restructuring, and installing painful budget cuts to bring down national debt. 

Then, in the middle of December, the European Central Bank (ECB) gifted an early Christmas to the euro zone in the form of ¤489 billion of cheap three-year loans for bank funding. The programme is called the three-year long-term refinancing operation (LTRO). The way it works is that European banks can borrow money from the ECB and simultaneously hand over sovereign bonds as collateral. In mid January, a better-than-expected auction for Spanish bonds verified that the LTRO had addressed the immediate need by allowing sovereign debt to be rolled over at a sustainable interest rate. The 10-year Italian bond, the most watched benchmark, fell from 7.20 per cent to 5.9 per cent. The LTRO also addressed the issue of banks’ liquidity, effectively taking the risk of financial-system collapse off the table. Nevertheless, the LTRO is only a short-term solution; it does not address the sustainability of sovereign debt. There is still a need for long-term structural reform. 

Once European bond yield began to drop, the dollar began to retreat. Against the baht, the dollar has fallen from a high of 31.80 in the middle of January, to 31.10 last Friday night. The dollar’s fall was also affected when the Federal Reserve announced after its last meeting, on January 25, that the US short-term interest rate is expected to stay close to zero through late 2014, at the least. The Fed’s previous prediction had been for a close-to-zero rate until mid-2013. This revised timeline underscores the fact that economic recovery in the US is still fragile. 

Lastly, local gold trading and investment activities have been an increasingly influential factor on the baht exchange rate. Normally when gold price rise, investors sell gold into the local market en masse. This ultimately causes local gold wholesalers to be “long” on gold. Consequently, wholesalers have to sell in the offshore gold market to square their position and receive dollars in return. The dollar is then sold into the Thai foreign exchange market to offset the foreign exchange rate risk, as the local gold markets buy and sell gold in baht, not dollars. Gold has risen from a low of $1,550 per ounce at the end of December, to $1,740 last Friday – a hike of 12 per cent in one month. The significant rise in gold price also created a significant inflow of dollars into the country and thus contributed to the drop in the dollar. 

The dollar exchange rate against the major and regional currencies will continue to be volatile because of the unpredictability of developments in the euro and US regions. Kasikornbankgroup continues to advise hedging of foreign exchange exposure as the best form of risk management in this environment.

 

Thiti Tantikulanan is head of Kasikornbank’s Capital Markets Business Division.