China's struggle with an economic slowdown will haunt foreign exchange markets for months to come, a Reuters poll showed, even if many emerging currencies are considered somewhat cheap after months of a relentless sell-off. While speculation over US interest rates will also weigh heavily, with only a few days to go until a Federal Reserve meeting in which some economists say it could raise rates, the chances of China devaluing its currency further is likely to hold more sway over financial markets.
Forecasts for major emerging currencies such as the Brazilian real, the South African rand and Turkish lira were mostly unchanged or revised down from an August poll as analysts accounted for the sharp losses of recent weeks, fuelled by concerns of an historic stock market rout in China. "A profound deceleration of the Chinese economy may turn into a key factor that favours the demand for safe-haven assets, lowering the demand for emerging market currencies," Banco Base economists led by Gabriela Siller said in the survey.
The poll results come as finance ministers and central bankers from the G20 economies meet in Ankara. The revised estimates fall short of predicting a reprise of the recent sell-off, projecting instead a relatively stable outlook over the next 12 months for currencies prone to violent swings. The real, trading at a 13-year low of 3.80 per dollar on Thursday, is forecast to stay close to that level in 12 months, at 3.70 per dollar. The rand, which fell to an all-time low last week, is also seen slightly higher, at 13.26 per dollar, according to the survey.
But the estimates are clouded by the uncertainties surrounding China's slowing economy. After a mere 3 percent devaluation in the Chinese yuan was blamed for much of the market rout last month, analysts wonder what could happen if Beijing moved more decisively to weaken the exchange rate from the current 6.35 per dollar to 7 or even 8, as media reports suggested last week. "This would be a 20-percent devaluation back to 2006 levels," wrote David Hauner, a cross-asset strategist for BofAML, mentioning a "potentially profound impact on commodities and through bank channels".
Indeed, among the 50 currency analysts polled, China's slowing economy topped the list of biggest risks for emerging currencies going forward. Worries about a US interest rate hike, commonplace earlier this year, came next, while a handful of the analysts were concerned about the impact of 'herd trading' - when large numbers of investors follow a few, sometimes for no clear reason. Still, a rate rise soon in the world's largest economy would be a key moment in currency markets, although whether the dollar rally continues will likely depend on the trajectory of interest rates from then on.
"Data mining studies show that once the Fed hikes, the dollar tends to stabilise or even depreciate in the following months," BNP Paribas strategist Gabriel Gersztein said in the poll. The emerging currency most prone to a renewed sell-off is the Brazilian real, followed by the Turkish lira, according to the poll. The real already underperformed other emerging currencies on Wednesday, dropping about 1 percent against the US dollar on fears Finance Minister Joaquim Levy could be losing influence within President Dilma Rousseff's cabinet.
Brazil's woes have spiralled into a full-fledged economic and political crisis and threaten to take the real down to a record low of 4.25 per dollar in 12 months' time, according to the most pessimistic forecast in the poll. Its fair value, according to some analysts in the poll, is around 3.45 per dollar. Brazil's central bank halted its rate-hiking cycle on Wednesday, after taking its benchmark Selic rate to a nine-year high of 14.25 percent. The decision came on the heels of a deep recession in the country that some economists say could force the central bank to start cutting rates next year. The currencies least prone to a sell-off are the Czech koruna and Hungarian forint, which are forecast to gain despite rising rates in the US and China's slowdown.
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