The year of the renminbi

Key highlights

• While the year 2020, notably the second half, was a period of USD depreciating to its fundamentals, 2021 is shaping up to be the year of the renminbi.
• We forecast some extension of the dollar depreciation in H1, and our macro team pencils in a 50% chance of some reduction in Section 301 tariffs on China from the incoming Biden administration.
• Together with a recovery in global trade volumes and still-accommodative policies from the Fed, ECB, and PBoC, we believe euro-dollar can reach 1.27 and dollar-yuan could target 6.15 this year.
• The Japanese yen remains amongst our top G10 picks, and we think dollar-yen will decline below 100 even in a relatively positive global risk environment.
• On the other hand, the Swiss franc should lag behind the euro, and we see euro/Swiss franc moving up modestly to 1.10.
• The weak dollar will support sterling, but gains will be moderate due to Brexit.
• Upward emerging market GDP revisions for Q1, a stronger tone in energy prices, and a higher euro-dollar point to GBIEMFX gains over Q1. We prefer to remain selective in emerging FX.
• This month, we upgrade our view on the yuan, Israeli shekel, and Turkish lira, but downgrade our view on the Mexican peso.

A number of developments in the last month or so argue for a slightly deeper US dollar depreciation than we had initially expected. First, the pace of the USD decline has accelerated, suggesting that momentum trades are taking over; historically, this has led to more rapid price depreciation, despite some near-term volatility due to extreme positioning. We now conclude that the dollar cyclical trough will occur around Q2/Q3 21 (instead of end-2021 previously). Second, it appears that the rebound in global trade is sharper, hinting at additional gains for pro-cyclical and trade-exposed currencies.

At the same time, the recent increase in long US nominal yields fuelled by expectations of additional fiscal stimulus should not be seen as dollar-supportive. This is because the increase is likely to be accompanied by rises in US inflation expectations, which will then leave US real yields at familiar depressed levels. That said, the revisions to our forecasts have been relatively modest as we are mindful that valuations are less compelling than half a year ago.