Asian stocks slide on rising trade tensions, yen climbs

British Pound

Reuters: The pound hit its highest in a year on Wednesday, driven by investors who are scrambling for juicier returns as global interest rates start to fall, but strategists say it will take more than higher rates for sterling to retain that sparkle. Data on Wednesday showed UK inflation is proving more stubborn than many expected, prompting traders to axe their bets on an August rate cut and sending the pound above $1.30 for the first time since last July. Unlike the euro and even the dollar, the pound has not been shaken by domestic politics, but rather has got a boost from a new government that many hope will be able to draw a line under years of unpredictable policies and volatile UK markets.

Growth in Britain has also started to improve. On Tuesday, the International Monetary Fund raised its estimate of UK economic growth to 0.7% this year, from 0.5% in its last set of global forecasts in April. But at the heart of this latest leg higher in the pound is the belief that British interest rates will take longer to decline than those elsewhere. Many big central banks have started cutting rates. The Bank of England and the U.S. Federal Reserve are among the last dominoes standing, although the most recent signals from the latter are that September is crystallising as the starting point for U.S. rates to fall.

"It really depends on what you think is driving the pound, is it BoE rate cut expectations being pushed back or Fed rate cut expectations being pushed forward?" Geoff Yu, senior macro strategist at BNY Mellon, said. "The fact that cable is above $1.30 and sterling has risen against the euro suggests there has been a re-pricing." On Wednesday, Britain's King Charles set out Prime Minister Keir Starmer's plans to revive the economy, with a focus on delivering new homes and infrastructure projects.

The rally in sterling has been broad, driving the euro, which fell 0.1% to 83.93 pence, on Wednesday, to its lowest in two years. The pound is up 2.3% this year against the dollar, comfortably in pole position among major currencies, the runner-up - the euro - is still down 1%. On a trade-weighted basis, the pound has recovered all of the losses incurred since the Brexit referendum in late June 2016. So on paper, the backdrop is looking more favourable. One major issue is Britain's fiscal situation. UK public debt is expected to exceed 100% of gross domestic product and the government has little room to raise taxes or cut spending.

"We are in the most rate-sensitive market I can remember, and the latest UK CPI numbers do not encourage hopes for an August rate cut," Kit Juckes, head of FX Strategy at Societe Generale, said. "I don't think sterling is going very far as the economy does not have that much legs, but there's so much uncertainty in the world that there is stability with a new government and that's helped the pound," he said. A hung parliament in France and political upheaval in the U.S. presidential race, with the attempted assassination of Republican candidate Donald Trump and the doubts around the ability of incumbent President Joe Biden to serve another four years in office, have added to the jitters across global markets.

The BoE meets on Aug. 1 and traders are attaching less than a 40% chance of a rate cut, compared with around 50% on Tuesday. UK rates are projected to end this year around 4.75%, down from 5.25%, above U.S. rates, which are seen in a 4.50-4.75% range, and euro zone rates, priced at roughly 3.30%. Higher UK rates mean investors can enjoy higher returns on UK assets than they would in another jurisdiction, which is helping cement the pound's position as top dog - for now at least.

"Despite the opportunities, we still find it difficult to forecast a more significant strengthening of the pound," Commerzbank strategist Michael Pfister said, citing uncertainty over the government's ability to really turn things around for the economy and the possibility the BoE might take a less cautious approach to rate cuts. "Given these risks, we expect the pound to strengthen only slightly. However, if it becomes clearer that these risks are less likely to materialise, the pound should benefit even more," he said.

US Dollar

ACY: The USD is currently influenced by two conflicting forces, each driving its path in different directions. On the positive side, the anticipation of a second presidential term for Donald Trump could lead to increased fiscal stimulus and new tariffs on US imports. This, in turn, could elevate US inflation, thereby boosting rates and yields. Conversely, on the negative side, market expectations for Federal Reserve rate cuts have been growing due to recent weaker-than-expected US inflation and economic activity data. Presently, the latter force appears to dominate, reflecting its immediate impact with the first Fed rate cut anticipated in the upcoming months.

The anticipation of Fed rate cuts is becoming more prominent, with the first cut expected soon. This has led to a defensive stance on the USD in the near term. However, many of these Fed-related negatives are already factored into the USD's price, as indicated by the high probability (approximately 80%) that investors attach to three rate cuts this year. This outlook appears overly pessimistic, and upcoming US economic data and Fed communications could challenge this perspective. In the FX market, many negative factors are already priced into the USD, as evidenced by the reduction in USD long positions by investors.

This indicates that only a significant deviation from expected data would have a lasting impact on the currency. The current sentiment suggests that the USD might be more resilient to negative data than previously thought, given the already adjusted market positions. In summary, the USD is at a crossroads, influenced by both potential fiscal policies and imminent Fed rate cuts. While the expectation of rate cuts currently prevails, the market may have already priced in much of the negative outlook. Therefore, upcoming economic data and Fed communications will be crucial in determining the USD's future trajectory.

South African Rand

Reuters: The South African rand dropped sharply on Wednesday, as investors dumped riskier assets globally because of worries over the state of the world economy and geopolitical risks after U.S. presidential candidate Donald Trump's remarks on Taiwan. At 1519 GMT, the rand traded at 18.2350 against the dollar, more than 1% weaker than its previous close. "The rand and other emerging market currencies are under pressure as there is a general risk-off scenario," said Wichard Cilliers, head of market risk at TreasuryONE. "The state of the world economy is worrisome and thus the sell-off," Cilliers said.

Geopolitical risks weighed on Wall Street on Wednesday after U.S. presidential candidate Donald Trump sounded lukewarm about defending Taiwan, sending chipmakers' shares lower and helping propel gold prices to record highs. Some investors use the rand as a proxy for emerging market risk, making it highly volatile. Local economic data showed on Wednesday that South African retail sales rose 0.8% year-on-year in May, up slightly from April's revised 0.7% increase.

On Thursday, investors will focus on an interest rate announcement by South Africa's central bank and a speech in parliament by President Cyril Ramaphosa laying out priorities for the new coalition government. A Reuters poll predicted the central bank would leave its main repo rate unchanged on Thursday, but economists expect it to cut rates by 25 basis points to 8.00% in September as inflation cools. Nkosilathi Dube, a financial market analyst, said this week's rate decision would be an important driver for the rand. On the Johannesburg Stock Exchange, the blue-chip Top-40 index traded down 0.8%. South Africa's benchmark 2030 government bond weakened, as the yield climbed 4.5 basis points to 9.6%.

Global Markets

Reuters: Asian equities fell on Thursday, led by chip stocks as investors fret over the prospect of escalating trade tensions between the U.S. and China, while the yen surged to a six-week high in the wake of suspected interventions by Tokyo last week. The U.S. dollar loitered near its weakest in four months against a basket of currencies as comments from Federal Reserve officials bolstered the case for a cut in September, keeping gold prices near record highs. MSCI's broadest index of Asia-Pacific shares outside Japan fell 0.57%, with tech heavy South Korean shares down nearly 1%. The yen's strength and a sharp drop in chip stocks took Japan's Nikkei down 2%.

China stocks also slipped as investors awaited policy news from a key leadership gathering in Beijing. The Shanghai Composite index was down 0.4% and blue-chip CSI300 index off 0.5%. A report that the United States was considering tighter curbs on exports of advanced semiconductor technology to China sent chip stocks and the Nasdaq tumbling overnight, led by AI darling Nvidia and Apple. Investor nerves were also jangled after Republican presidential candidate Donald Trump said Taiwan "did take about 100% of our chip business" and should pay the U.S. for its defence as it does not give the country anything.

The comments sent shares of Taiwan Semiconductor Manufacturing Co sharply lower on Wednesday ahead of its second quarter earnings later on Thursday. TSMC shares slumped 3% in early trading, with the broader index down nearly 2%. "We're seeing quite a few divergences across key markets, most of which can be tied back to U.S. politics one way or another," said Matt Simpson, senior market analyst at City Index. "And this could just be the beginning of broken correlations making a comeback as markets figure out who will do what in the U.S. political landscape."

Investors are fully pricing in a 25 basis point rate cut in September after Federal Reserve officials said on Wednesday the U.S. central bank was "closer" to cutting interest rates, citing the progress in inflation easing close to its 2% target. That has left the dollar struggling, with the euro steady at $1.09385 near the four-month high it touched on Wednesday. Sterling was last at $1.30065, close to a one-year peak touched in the previous session. Investor attention will be on the policy decision from the European Central Bank later in the day, where the central bank is expected to stand pat, although comments from officials will be crucial in gauging when the next rate cut will come.

The dollar index, which measures the U.S. currency versus six peers, was last at 103.69, just above the four-month low of 103.64 it touched on Wednesday. "Looking beyond the next few weeks means seeing that falling U.S. inflation expectations will reach its limits by late 2024," Thierry Wizman, global FX and rates strategist at Macquarie said in a note. "That a Trump policy agenda will be associated with U.S. inflation, not disinflation, and that the Fed's easing cycle will, ultimately, be shallow, not deep."

The yen hit a six-week high against the dollar at 155.37 in early trading after a sharp rise on Wednesday that had traders suspecting Japanese authorities were once again in the market supporting the currency. Bank of Japan data suggested Tokyo may have bought nearly 6 trillion yen last week to lift the frail yen away from the 38-year lows it has been rooted to since the start of the month. The yen has dropped 9.5% against the dollar this year as the wide interest rate difference between the U.S. and Japan weigh, creating a lucrative trading opportunity, in which traders borrow the yen at low rates to invest in dollar-priced assets for a higher return, known as carry trade. In commodities, gold was 0.18% higher at $2,462 per ounce just below the record high of $2,483.60 it touched on Wednesday.

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