• INSIDE THIS ISSUE
• 
• Opening Article
• Fat Tails From Black Swans
• 
• Featured Article
• MASECO's Strategic Allocation
• 
• Economics
• A Bipolar Recovery
• 
• Equities
• Once More Unto The Breach
• 
• Fixed Income
• Tightening Seatbelts
• 
• Currency
• A Look Back
• 
• Commodities
• All That Glitters
• 
• Special Report
• The Power of Forecasting
• 
• The Numbers
• Market Data
• 
• Contact & Disclaimer
• Contact Information & Disclaimer

Currency: A Look Back

2009 was another volatile year for currencies. After getting beaten down for most of 2008, sterling rebounded and was the best performing major currency in the world. It started the year at 1.466 against the US dollar and appreciated by over 10% to end the year at 1.615(1). Against the euro, sterling gained over 8% and appreciated against the other major currencies.

The Euro

The euro had a tumultuous year, starting at 1.393 against the US dollar, and peaking at over 1.50 in mid November (a 15 month high) before falling back to 1.435 at the end of the year(2). Specifically in December, the euro came under pressure amid concerns of Greece’s fiscal position and the health of Eurozone banks, as regulators expressed concerns about Austria’s fourth largest bank capital position.

US Dollar

After peaking in early March, then falling by roughly 20%, the dollar finally turned around and appreciated by about 4% in December (on a trade-weighted index). As the US dollar has fallen, so has the Chinese renminbi, which is pegged to the US dollar. This has created concern globally and especially in Asia where most currencies have significantly strengthened against the US dollar (and consequently the renminbi). This has essentially made Chinese exports cheaper compared to neighbouring Asian countries, thus hurting the economic growth in these countries. In mid-November China’s central bank acknowledged a case for a stronger renminbi and took a welcomed step when it stated that it would take into consideration ‘capital flows and major currency movements’ when considering its currency.

US Dollar as a Reserve Currency

As the dollar has fallen, many governments and other market participants have voiced concern about the US dollar as a reserve currency. China has been purchasing raw materials globally with some of its reserves and India and Sri Lanka purchased significant amounts of gold in late November from the IMF to diversify their central bank holdings away from the dollar.

Asian & Emerging Markets

The story for the year was the strength of the Asian (ex-Japan) and emerging market currencies. The Indonesian rupiah was Asia’s best performing currency for 2009 as it appreciated more than 16% against the dollar(3). The South Korean won was a close second as both South Korea and Indonesia saw massive inflows from foreigners into both their equity and fixed income markets. Asian central banks intervened in currency markets recently to stem the appreciation of their currencies against the dollar and the renminbi. Many of the region’s currencies are at or near multi-year highs. These include the Indian rupee, Indonesian rupiah and the South Korean won.

Commodity Countries

Many of the commodity and oil-producing countries (Canada, Australia, Brazil, Norway, etc.) saw their currencies appreciate significantly against the dollar and the euro to multi-year highs as commodity prices rebounded and as market participants appreciated that many of these economies were more fiscally sound than some large, more indebted, countries.

Investing in Global Currency Markets

For most of our investors we accept global currency exposure when investing in global equities or global government bonds through an active global government bond fund. The global government bond fund invested in by our clients appreciated 19.17% last year in US dollars (6.33% in sterling) in large part because it was overweight Asia and Latin American currencies. After a poor start to the year, the manager reiterated his long-held strategy and view. At the time he was overweight yen and was shifting to South Korea, Brazil, Australia, Indonesia and Mexico all of which had significantly depreciated in January and February and then promptly substantially rebounded.

A Look Back at 2009

By and large our concerns about a weaker US dollar, sterling and euro against Asian (ex-Japan) and commodity countries (mostly net creditor countries) started to materialise.

In our Q1 Investment Quarterly we discussed the massive amount of quantitative easing in the US, Europe and the UK and wrote ‘we expect countries that print money to see their currency depreciate.’

In the second quarter we wrote specifically about the potential for appreciation in the Mexican peso, the Norwegian krone and the South Korean won and other Asian currencies and wrote: ‘We believe that Asian currencies will outperform European and US dollar currencies over the medium to long term.’

In the third quarter, shortly prior to India and Sri Lanka purchasing gold, we discussed the US dollar as a global reserve currency and wrote: ‘We would not be surprised if the US dollar continued to face significant challenges and if its value slowly eroded as the world adjusts to the new world of net creditor countries and their search for an alternative to the dollar as the sole global currency reserve.’

Looking Forward

We expect that the US government will continue to print money and that the dollar will continue to struggle as the US economy tries to inflate itself out of its debt problem. Whilst we don’t expect this to be in a straight line we diversify currency exposure, liability match and use an active manager to work through this and other trends. That being said, there is currently no real alternative at the moment to the US dollar as a world reserve currency and we still do not see a disorderly depreciation of the dollar.

Although currency is difficult to predict and can be very volatile, we still believe that countries with prudent fiscal positions who are growing and not issuing significant new amounts of debt will continue to see their currencies appreciate against less fiscally responsible countries. We do not see how some of the most indebted countries such as Japan, the US, the UK and some European countries can easily right their poor fiscal positions and we believe that in general these currencies as a group may continue to lose value on a relative basis. That being said, we are acutely aware of the rising risk of protectionism by some governments and the effect that the withdrawal of central government stimulus packages will have on various currencies in 2010.