Currency traders are rejecting warnings from International Monetary Fund Managing Director Christine Lagarde that volatility will increase as the Federal Reserve pares its unprecedented stimulus program.
After peaking at a four-month high earlier this month, a measure of anticipated global price swings has fallen back to the lowest level since October, seven weeks before the U.S. central bank announced a cut in its bond purchases. Average implied volatility for the currencies of Brazil, India, Indonesia, South Africa and Turkey -- which Morgan Stanley dubbed the “fragile five” last year because they’re vulnerable to capital flight -- has fallen to the lowest in three months.
Traders are emboldened by forecasts that the U.S., the world’s largest economy, will grow at the fastest pace since 2005 this year and by the Fed’s pledge this month that it will taper stimulus in “measured steps.” Lagarde said in an interview after the Group of 20 meeting at the weekend that increased volatility would be a “spillover” of the Fed’s actions.
“A jump in volatility starting from emerging markets is unlikely as long as the recovery in developed economies continues,” Yuji Kameoka, the chief currency strategist in Tokyo at Daiwa Securities Co., said in a Feb. 24 phone interview. “Once developed markets stabilize, global markets stabilize. And that’s a positive for emerging economies.”
While the worst winter storms to hit the U.S. in 31 years have depressed retail sales and employment growth, economists surveyed by Bloomberg surveys still expect the nation to lead the global recovery. America will grow 2.9 percent this year, surveys suggest, compared with an average 2.1 percent across the Group of 10 developed countries.
JPMorgan Chase & Co.’s Global FX Volatility Index fell to 7.6 percent yesterday in New York, the lowest close since Oct. 28 and down from a high for this year of 8.98 percent on Feb. 3.
Traders’ expectations for future swings in the currencies of the fragile five averaged 12.3 percent, down from more than 17 percent in August. Volatility on these currencies was at a record low 8.22 percent in May, before then-Fed Chairman Ben S. Bernanke first mooted the idea of tapering the central bank’s quantitative-easing program.
“A major driver of the spike in volatility was the shock factor,” Callum Henderson, the Singapore-based global head of foreign-exchange research at Standard Chartered Plc, said by phone on Feb. 24. “That has worn off, and the market has gotten used to the idea of tapering.”
Emerging-market currencies had their worst start to a year since 2009 in January, with a Bloomberg index of the 20 most-traded exchange rates tumbling 3 percent to the lowest in almost five years. Investors fled emerging-market assets as the start of Fed tapering coincided with reports confirming a slowdown in China’s economy, the world’s largest after the U.S.
The gauge has rebounded 1.6 percent from its Feb. 3 low, though most emerging currencies remain weaker for the year to date. Argentina’s peso is down 17 percent against the dollar, the biggest drop among 24 developing peers tracked by Bloomberg, after the nation devalued, while South Africa’s rand has fallen 3.2 percent amid labor disputes that are weighing on the economy.
“The rout in emerging markets was a temporary phenomenon,” Masashi Murata, a currency strategist in Tokyo at U.S. broker Brown Brothers Harriman & Co., said by phone yesterday. “Optimism is still strong. The recovery in developed countries is still in place, with the U.S. leading the way.”
Stocks rallied this month, with the Standard & Poor’s 500 Index of U.S. equities closing on Feb. 24 less than one point from its record high of 1,848.38, and the global MSCI ACWI Index at about the highest since December 2007.
Janet Yellen, who succeeded Bernanke at the Fed this month, won the praise of her peers at the G-20 finance chiefs’ meeting in Sydney for helping smooth the concerns of developing nations. The official communique promised to be mindful of international repercussions of monetary policy, after countries including India and South Africa called for the Fed to consider the impact of the withdrawal of its stimulus.
Yellen pledged on Feb. 11 to maintain her predecessor’s policies by scaling back stimulus gradually. The U.S. central bank said on Dec. 18 it would trim its monthly bond purchases to $75 billion from $85 billion, before cutting by another $10 billion the following month.
“The tapering that we see is a result of the significant improvement of the global economy, but particularly the U.S. economy, and that in and of itself is positive,” Lagarde said in a Feb. 23 interview with Bloomberg News. “There will continue to be volatility on the markets as a result of this tapering.”
Speculation that the Fed will keep its main interest rate in the zero-to-0.25 percent range it has maintained since December 2008 may help curb foreign-exchange volatility. The odds of U.S. policy makers increasing the target rate by year-end have fallen to 7.2 percent, from 16 percent on Jan. 2, according to futures prices.
“The Fed has made its stance clear,” Hajime Nagata, a bond investor in Tokyo at Diam Co., which oversees the equivalent of $115.3 billion, said in a Feb. 24 phone interview. “They’re going to keep tapering at a steady pace. The market doesn’t expect a sharp interest-rate hike.”