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Strengthening of the dollar and heavy news background strikes the Asian markets. Investors are devastating the region, pulling cash from safe-haven currencies.
The main currencies of Asia - yen and yuan - traditionally supported by investors and traders, are actively declining, threatening to drag the rest of the market with them.
There are several reasons for such behavior of investors in the region.
First things first, the Chinese and Japanese fiats are falling due to the growing disparity between the overly hawkish Federal Reserve and the dovish politicians of the two most important exporting countries in the Asian region.
Thus, the People's Bank of China recently said that China's current level of interest rates is «reasonable» and leaves room for future interventions. True, officials also said that this level is not unconditional and rates may resume decline before the end of the year.
Japan is more rigorous in supporting the economy with cheap loans, which is likely part of a larger plan for world hegemony. However, investors prefer not to take advantage of the excellent prospects of a cheap yen and play it safe by withdrawing assets.
While other Asian countries prefer to date budgets from foreign exchange reserves to mitigate the damage from the dollar, the decline in the yuan and yen is exacerbating the situation across the region, threatening minor currencies and scaring off risky traders working in the market of eastern currencies. Thus, China has been the largest trading partner of the countries of Southeast Asia for 13 years in a row. Japan, the world's third largest economy, is a major exporter of capital and credit.
The second reason is the mortgage crisis in China. Many large developers have gone bankrupt this year. Social networks are flooded with videos showing the demolition of entire unfinished neighborhoods of brand new high-rises. And although the real estate industry is not the most profitable in China, it is a sign to the rest of the world that the economy of the land of dragons is experiencing difficulties that have already affected entire industries.
Investors are also worried about a possible war with Taiwan. The sword of Damocles is hanging not only over a small country, but also over sectors of the Chinese economy, including maritime transportation, flight safety and a number of others.
Mobilization in Russia also does not add optimism to investors. Although Russia is not a major importer of Chinese goods, the supply of timber, energy, and steel largely depends on it. In addition, martial law in the Russian Federation threatens the tranquility of maritime transport, and, combined with Western pressure for tougher sanctions against Russia's Chinese partners, which will increase many times after the imposition of martial law, this will destabilize the entire economy of the region.
In addition, the current Chinese government continues to pursue a policy of pandemic restrictions, which has become something of a fixed idea.
Still, some experts believe that the yen and the yuan could bring some stability, if they followed a hawkish policy. Thus, a representative of Mizuho Bank Ltd. in Singapore directly accuses the governments of China and Japan of destabilizing the situation in the region and adds: «We are already approaching the stress level of the global financial crisis in some aspects, then the next step would be the Asian financial crisis if the losses worsen».
A free fall in the currencies of the region's two largest economies could escalate into a major crisis on the scale of 1998 if it prompts foreign funds to withdraw money from Asia in general, leading to massive capital outflows. But these are not all risks: the decline could trigger a vicious circle of competitive devaluation and declining demand and consumer confidence.
Analysts working within the region unanimously argue that foreign exchange risk is a greater threat to Asian countries than interest rates. Because of the export rate, these states are particularly vulnerable to the strong dollar, which is the currency of most international agreements.
Investors are already actively withdrawing money from the region. Thus, in less than nine months of this year, about $44 billion from Taiwan stocks, $20 billion from Indian stocks, and almost $14 billion from Korean stocks were withdrawn from domestic funds. Indonesia's bond market suffered a «modest» $8.2 billion outflow.
The influence of Beijing and Tokyo is especially noticeable in the financial markets. The yuan makes up more than a quarter of the weight of Asian currency indices. The yen is the third most traded global currency and is involved in many exchange currency transactions, so its weakness has had a huge impact on its Asian counterparts, forcing investors to either get out of the market or use carry trading strategies.
The growing codependency between the two largest regional currencies and their smaller counterparts can be seen in the fact that they are moving closer to each other as the dollar rises. The 120-day correlation between the yen and the MSCI EM currency index jumped to more than 0.9 last week, the highest level since 2015. Whereas in April there was even a short-term inverse correlation between them.
Moreover, the threat of spreading influence is growing as the fall of the two major currencies accelerates. The yen fell above 145 per dollar for the first time in more than two decades on Thursday after the divergence in US and Japanese monetary policy widened further when the Fed hiked interest rates the day before. The yen won back some of its losses after the intervention of the authorities, but analysts doubt the effectiveness of these measures in the long term, primarily due to the macroeconomic reasons described above.
Earlier this month, under pressure from a hawkish Fed and a growth slowdown in China driven by Covid-Zero lockdowns and the real estate crisis, the yuan fell above its key level of 7 per dollar. The mainland currency widened losses on Friday to the level closest to the weak end of the allowed trading range since the shock currency devaluation in 2015.
We all understand the psychological importance of certain levels, such as 150 yen, for example. They are quite capable of causing shocks similar to the scale of the 1997 Asian financial crisis. Analysts add to this fact that the rate of decline is even more important than individual trigger points.
Of course, there is no certainty that further losses of the yuan and the yen will lead to financial turmoil. We must understand that strategic investments remain within both countries. So far, the talk is only about the outflow of exchange investments. Prime brokers hold their assets in shares of strategic and large international companies. In general, the countries of the region are now in a much stronger position than twenty-five years ago, with a much larger foreign exchange reserve, as well as less dependence on dollar loans. However, the risk remains, especially for underdeveloped Asian countries such as Indonesia. Vulnerable currencies are current account deficit currencies such as the Korean won, the Philippine peso and, to a lesser extent, the Thai baht. If the yuan and the yen continue to plummet, it will lead to further dollar buying to hedge demand for those exposed to emerging market currencies.
This week particular attention should be paid to the news from Thailand. The bank will announce the policy decision on the same day after raising interest rates in August for the first time in more than three years. Mexico's central bank on one side of the world will review policy on Thursday, while India's central bank on the other side will review its policy on Friday. Brazil's unemployment data and South Korea's industrial production data will also be released on Friday.
China's September business surveys, due on Friday, will provide a clearer picture for traders and exporters alike. Experts on the region expect China's industrial profits to fall even further, leading to a reduction in resources for capital investment and hiring. However, there is an opinion that the reductions will not be too serious, and most likely, they can be moderately optimistic. This is one of the last major reports on the eve of the next Communist Party Congress, where the future of China (and Xi Jinping) will be decided, so the real numbers will still not be allowed to leak. Plan your trading strategies with this fact in mind.
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