(TIỂU LUẬN) FX market analysis and trading strategies report group assignment

BAFI3182 - Financial Markets FX market analysis and Trading strategies report Group assignment Lecturer: Nguyen Thanh Ha Students: Nguyen Thi Huong Xuan (s3697326) Trinh Thanh Tung (s3747447) Nguyen Anh Duc (s3747648) Word count: 2498 School of Business & Management Group Assignment Table of Contents EXECUTIVE SUMMARY INTRODUCTION FX MARKET PAST BEHAVIOR I USD/JPY II AUD/USD DETERMINANTS OF EXCHANGE RATES ANALYSIS I Relative Inflation Rates II Relative Interest Rates III Relative Economic Growth Rates (Real GDP Growth) 14 IV Official Intervention 18 V Exchange rate expectations 20 MARKET VIEW 21 TRADING STRATEGY 22 I Primary objective 22 II Secondary objective 23 CONCLUSION 24 APPENDICES 24 REFERENCE 27 School of Business & Management Group Assignment EXECUTIVE SUMMARY The purpose of this report is to analyze the foreign exchange market and provide beneficial trading strategies for Techcombank The paper will examine FX past performances (2017-2019), current and forecast macroeconomic factors that affect the changes of two pairs of currency USD/JPY and AUD/USD, then form a market view in the following months The report will emphasis on five factors: Relative Inflation Rates, Relative Interest Rates, Relative Economic Growth Rates (Real GDP Growth), Official Intervention, and Exchange rate expectations The financial and economic data are collected through various credible sources with Thomson Reuters Eikon as the primary The analysis is complemented with the latest news from numerous academic sources such as Thomson Reuters, Bloomberg, Wall Street Journal, and Financial Times Through analysis, we forecast that USD will depreciate against both JPY and AUD in the next months Therefore, Techcombank should buy JPY and AUD with USD at this moment then sell both currencies to USD by January 2020 to make profits The estimated profit after trading can be up to 4,564,041.594 USD as if the bank follows the suggested strategies that will be provided in this report School of Business & Management Group Assignment INTRODUCTION Techcombank is one of the top popular commercial banks in Vietnam in recent years In the next months, our bank is going to enter the exchange transactions for USD/JPY and AUD/USD Our objectives are to maximize the profit through trading each pair of currency while remaining the liquidity of the money market and avoid any risks that may happen during the trading period This report will be divided into three parts which are: Examination of past behaviors for both USD/JPY and AUD/USD, Analysis of macroeconomics factors that drive the exchange rate, Trading strategies to maximize profit and minimize risks By performing the tasks, my team will provide the best output that can be archived by the end of trading period School of Business & Management Group Assignment FX MARKET PAST BEHAVIOR I USD/JPY Figure 1: USD/JPY Spot Rate Reproduced from: Thomson Reuters Eikon During the Q4 2017, the exchange rate marked at 112,67 JPY per USD, then slides down to 106,26 According to Sano (2019), under the impact of US-China trade war, investors felt unsafe for their investment in USD, causing USD to depreciate Then the USD bid rate rose until the end of 2018 As Vatsal (2019) shown a highlight event is that, US put tariffs on $200 billion of Chinese goods starting January 2019, where many investors’ belief on a safe investment as USD is rampling once more Moving to the first half of 2019, the bid rate fall again and stable at around 110 JPY per USD School of Business & Management Group Assignment This is due to Brexit no-deal is a risk to the future of Japan's automobile industry (Simon 2019) II AUD/USD Figure 2: AUD/USD FX Spot Rate Reproduced from: Thomson Reuters Eikon In the last years, The AUD/USD spot rate have a tendency to decline, where AUD lost about 15% in value, down from 0,8054 of Q3 2017 to 0,68 in this July This is because the US-China trade war and the slow global growth have weakened the manufacturing in Australia and hurt the Australia exports, thus leading to less demand for AUD, causing AUD to depreciate against USD (Knaus 2018) Another key reason is that AUD has become riskier, many investors are now suggested to trade AUD for higher yield currencies, and some started buying their AAA-rated bonds for foreign companies (typically Apple), thus lowering the demand for AUD (Cole 2019) School of Business & Management Group Assignment DETERMINANTS OF EXCHANGE RATES ANALYSIS I Relative Inflation Rates a United State ● Historical data Figure 3: Inflation Rate in the United States Reproduced from: Thomson Reuters Eikon Before June 2018, US had experienced a considerable rise in inflation, reaching a peak of 2.9% This is mainly because of the rising cost of medical care, shelters and gasoline, which reflects a strong and fully-employed economy (Bartash 2018) However, due to the significant increase in oil supply, the US gasoline prices started to fall in July 2018 (Constable 2018) Thus, the economy slowed down, causing the US inflation rate to drop rapidly, hitting the lowest point of 1.5% in February 2019 Afterwards, the rate rose modestly for a while then declined again, hitting 1.6% in July 2019 School of Business & Management Group Assignment ● Forecast Figure 4: Forecasted Inflation Rate in the United States Reproduced from: Thomson Reuters Eikon US inflation rate is forecasted to increase gradually in the following months (Reuter) However, many economists have downgraded their inflation projection for Q3 2019 from 1.8% to 1.5%, as “there is a risk that weak inflation will be more persistent than currently anticipate” (Mutikani 2019) b Japan ● Historical data Figure 5: Inflation Rate in Japan Reproduced from: Thomson Reuters Eikon Overall, although the inflation rate in Japan fluctuate continuously throughout the period, the varying range of which is much lower compared to the US Japan’s CPI has been mostly on the floor, ticking up only during January 2018 and August-October 2018 due to high energy costs (Kuroda 2018) School of Business & Management Group Assignment After October 2018, the rate tailed off again for months, hitting the lowest point of 0.2% (January 2019), which was the result of the US-China trade war discouraging the demand for Japanese electronics, car parts and heavy equipment, thus lowered the prices (White 2019) ● Forecast Figure 6: Forecasted Inflation Rate in Japan Reproduced from: Thomson Reuters Eikon  According to Figure 6, the inflation rate in Japan is expected to slow to 0.5% in Q3 2019, which is similar to forecast from Mari Iwashita (chief market economist at Daiwa Securities) (Kihara & Leussink 2019) The rate then rise again, reaching an even higher rate of 0.8% in Q1 2020 However, as trade frictions and slowing global growth (due to US-China trade war) threaten to put the brakes on Japan’s economic recovery, other economists argued that inflation in Japan would only decline in the near future (Kihara & Leussink 2019) c Australia ● Historical data Figure 7: Inflation Rate in Australia Reproduced from: Thomson Reuters Eikon School of Business & Management Group Assignment Inflation rate in Australia had a generally stable trend at around 1.8-2% throughout most of the period However, since Q4 2018, the rate has declined significantly, hitting rock bottom of 1.3% in August 2019 According to economists, this is the lowest Australian inflation has been in 50 years, which is mainly due to the massive drop in prices of childcare, vehicles and telecommunications services (Ross 2018) ● Forecast Figure 8: Forecasted Inflation Rate in Australia Reproduced from: Thomson Reuters Eikon According to Reuter, inflation rate in Australia is forecasted to increase to 1.7% in the next two quarters of 2019, even reaching the 2% inflation target by 2020 However, many economists argue that nothing might push up Australian inflation in the near future AMP Capital senior economist Shane Oliver said that not until at least late 2020 would the Australian inflation rate rise (Ross 2018) According to data from Thomson Reuters Eikon, inflation rates of both the US and Japan are forecasted to increase in the next months As the US’s inflation is higher and could experience a more substantial increase than Japan, prices of US’s goods and services would increase higher in USD term Therefore: ➔ Less demand for US’s exports, thus less Japanese demand for USD School of Business & Management Group Assignment ● Forecast Figure 20: Forecasted Real GDP Growth Rate in Australia Reproduced from: Thomson Reuters Eikon Real GDP Growth Rate in Australia is expected to rise up to 0.7% in the following months according to Reuters -Real GDP Growth Rate in both US and Japan are forecasted to decrease, indicating slow economic growth However, the rate of Japan is expected to drop to negative, meaning the economy is actually shrinking Thus, as the expected fall in Real GDP Growth of Japan is much lower compared to the US, there would be: ➔ Less imports, and therefore less supply of the JPY ➔ Decrease the level of overseas investment, and therefore less demand for JPY As both supply and demand of JPY would fall, the net effect of Real GDP growth is difficult to predict the exchange rate in advance Similar analysis applied for AUD/USD, in which the Real GDP Growth of Australia is forecasted to rise while that of US would fall 18 School of Business & Management Group Assignment IV Official Intervention a United State ● Historical data Figure 21: Foreign Exchange Intervention Episodes in the US Reproduced from: Watts 2019 US monetary authorities (US Treasury and FED) used to have a long history of intervention (buying or selling its own currency), with aims to: ➔ Reduce excess exchange rate volatility (FX smoothing) ➔ Signal the US’s views on the exchange rate But due to conflict in rate-setting between the Treasury and Fed, US’s intervention had been out of favor since 1996 and the last intervention was from 2011 (FED of New York n.d.) ● Forecast As Fed’s recent action (lower interest rates) and expected rate-cutting path correspond with the government’s desire, it has been easier for the US to push for FX interventions, aiming to weaken USD to increase exports (Szalay 2019) Various analysts from ING to CIBC also 19 School of Business & Management Group Assignment openly expect intervention from the US shortly (Greifeld 2019) Therefore, it is forecasted that there would be official intervention from the US to depreciate the USD If central bank wanted the USD to depreciate from its free market exchange rate, it would enter the market as a seller of USD This increases the supply for the USD and thus, decrease the value of USD b Japan ● Historical Japan used to consistently depreciate the JPY by selling it heavily before the 2000s (Harding 2018) However, Japan has not taken a market intervention since 2011 due to already effective monetary easing (Shirai 2019) ● Forecast Japan’s finance minister claimed that there would be no need to intervene in the foreign exchange market in the near future (Harding 2019) Thus, Japan is expected to have no official intervention to affect the exchange rate c Australia 20 School of Business & Management Group Assignment Figure 22: Foreign Exchange Intervention Episodes in Australia Reproduced from: Sheridan 2018 Similar to both countries above, Australia used to intervene heavily in the foreign exchange market, however, this has become less frequent with the last intervention was in 2008 during the global financial crisis (Hamilton 2018) V Exchange rate expectations a USD/JPY Figure 23: Currency forecast of USD/JPY Reproduced from: Thomson Reuters Eikon 21 School of Business & Management Group Assignment According to Reuters, USD/JPY exchange rate is expected to go down in the next months Other market participants (see Appendices) also produces similar results Thus, USD is expected to depreciate against JPY, therefore speculators will try to buy JPY with USD before the value of USD falls, causing: ➔ Increase in supply of USD ➔ Decrease in demand of USD Thus, if a sufficient speculators expect USD to depreciate, then USD would depreciate b AUD/USD Figure 24: Currency forecast of AUD/USD Reproduced from: Thomson Reuters Eikon AUD/USD exchange rate is forecasted to rise in the next months according to Reuters and other market participants (see Appendices) This means the value of AUD is expected to increase, therefore market participants will tend to buy AUD now and sell it in the future at a higher price Therefore, AUD is expected to appreciate against USD 22 School of Business & Management Group Assignment MARKET VIEW Inflation in all three countries are expected to increase in the following months As US has already higher inflation rate as well as higher inflationary expectations than both Japan and Australia, US is forecasted to depreciate against both Japan and Australia Interest rate in both US and Australia are expected to decrease while that of Japan remains stable Due to higher inflationary expectations in US, this circumstance suggests a depreciation of USD against JPY and AUD In terms of Real GDP growth rates, the net effect of which is difficult to predict the exchange rate in advance Due to current rate cut by FED, US is expected to have official interventions in the FX market soon with aim to weaken the USD As there is no sign of intervention in Japan and Australia, USD is forecasted to depreciate against JPY and AUD In the following months, USD/JPY exchange rate is forecasted to decrease while AUD/USD would increase according to various market participants Therefore, a depreciation of USD against JPY and AUD is expected Based on above analysis, USD would depreciate against JPY and AUD in following months 23 School of Business & Management Group Assignment TRADING STRATEGY I Primary objective The primary trading objective of my bank is to maximize the profit by trading the two pairs of currencies USD/JPY and AUD/USD Through analyzing those factors that determine exchange rates, United State is supposed to depreciate against both Japan and Australia, which means the exchange rate of USD/JPY will decrease and AUD/USD will decrease Hence, the initial strategy is to sell 200 million USD to buy JPY and AUD now then sell after months to buy back USD We will negotiate with as many corporations as possible to get a variety of bid/ask rates Then we will calculate and compare the profit that we can benefit from each partner with the same pattern of buying in and selling out Our bank will agree to the party that offers the highest marginal profit Time USD/JPY Activity 07/31/2019 108.74 Sell 100,000,000 USD 100,000,000 x 108.74 01/31/2020 106.83 Calculation to buy JPY = 10,874,000,000 JPY Sell all JPY to buy 10,874,000,000 / 106.83 USD = 101,787,887.298 USD Profit = 101,787,887.298 -100,000,000 = 1,787,887.298 USD Table 1: USD/JPY trading Time AUD/USD Activity 07/31/2019 0.6844 Sell 100,000,000 USD 100,000,000 / 0.6844 to buy AUD 01/31/2020 0.7034 Calculation = 146,113,383.986 AUD Sell all AUD to buy 146,113,383.986 x 0.7034 USD = 102,776,154.296 USD 24 School of Business & Management Group Assignment Profit = 102,776,154.296 - 100,000,000 = 2,776,154.296 USD Table 2: AUD/USD trading By the end of transactions, my bank is expected to gain a total profit of approximately 4.5 million USD (1.8m USD and 2.7m USD from trading USD/JPY and AUD/USD respectively) II Secondary objective The secondary objective is to manage the risk of currency trading which are the shortage of USD during the transaction period and the foreign exchange risk for trading a large amount of currencies In order to cope with the former problem, the key concept is to encourage the surplus economic units to send more USD into savings Raising the saving interest of USD as well as calling investment from foreign countries in this period is reasonable Additionally, we can decrease the interest rate for short-term loan in JPY and AUD to boost the demand for these two currencies while oppositely increase the borrowing rate of USD As the exchange rate of USD/JPY and AUD/USD fluctuated in the last two years, there is a high possibility that the rates may not reach what we expect in the next months, which can cause huge losses to the bank Hence, my team decide to enter 6-month futures contracts with accepted parties to ensure the profits of the transactions Entering futures contract may lower our bank profit if the exchange rate of JPY/USD or AUD/USD is higher than the expectations However, the security of these contract which can eliminate the risk of transaction losses is worth taking CONCLUSION According to market factors analysis, USD is expected to depreciate against both JPY and AUD in the next months Hence, Techcombank will enter futures contracts to sell USD into JPY and AUD now then buy back USD with these currencies by the end of the contract As long as my bank can control the risks using the provided strategies, we expect to raise a total profit 4,564,041.594 USD after the exchange transaction 25 School of Business & Management Group Assignment APPENDICES Figure 25: The median interest rate projection of Fed officials Reproduced from: US Federal Reserve Figure 26: America had a long history of FX intervention Reproduced from: Szalay 2019 26 School of Business & Management Group Assignment Figure 27: USD/JPY Exchange Rate Expectations Reproduced from: FX Street Figure 28: USD/JPY Exchange Rate Expectations Reproduced from: TradingView Figure 29: USD/JPY Exchange Rate Expectations Reproduced from: Trading Economics 27 School of Business & Management Group Assignment Figure 30: AUD/USD Exchange Rate Expectations Reproduced from: TradingView Figure 31: AUD/USD Exchange Rate Expectations Reproduced from: Trading Economics REFERENCE ● Bartash, J 2018, 'Consumer inflation rising at fastest pace in years, CPI shows', Market Watch, viewed August 2019, ● Chadwick, L 2019, ‘US Federal Reserve cuts interest rate, citing weak global growth’, Euronews, viewed August 2019, 28 School of Business & Management Group Assignment ● Cole 2019, ‘Australian dollar left bloody after computer-driven crash’, Reuters , viewed August 2019, ● Cox, J 2018, ‘Trump has set economic growth on fire Here is how he did it’, CNBC , viewed August 2019, ● Constable, S 2018, 'Gasoline Prices Expected to Level Off This Fall', Barrons , viewed August 2019, ● Farrell, S 2016, 'What does Bank of Japan hope to gain by imposing negative interest rates?', The Guardian, viewed August 2019, https://www.theguardian.com/world/2016/jan/29/bank-of-japan-achieve-imposing-ne gative-interest-rates ● Farrer, M 2019, 'Reserve Bank interest rates: RBA cuts rates to historic low of 1.25%', The Guardian, viewed August 2019, ● FED of New York 2019, 'Foreign Exchange Operations', FED of New York , viewed August 2019, ● Greifeld, K 2019, 'Wall Street Weighs Wild-Card Risk of U.S Move to Weaken Dollar', Bloomberg, viewed August 2019, ● Hamilton, A 2018, 'Understanding Exchange Rates and Why They Are Important', Reserve Bank of Australia, viewed August 2019, 29 School of Business & Management Group Assignment ● Harding, R 2018, 'No need for yen intervention, says Japan’s finance minister', Financial Times, viewed August 2019, ● Karp, P 2019, ‘Australia's economic growth slowest in 10 years amid calls for swift action’, The Guardian, viewed August 2019, ● Kiernan, P 2019, 'A Key Reason the Fed Struggles to Hit 2% Inflation: Uncooperative Prices', The Wall Street Journal , viewed August 2019, ● Kihara, L & Leussink, D 2019, ‘Japan's slow inflation, manufacturing slump could draw early Bank of Japan action’, Reuters , viewed August 2019, ● Knaus, C 2018, ‘Australian dollar hits 10-year low after dipping below 70c benchmark’, The Guardian, viewed August 2019, ● Kuroda, H 2018, 'Japan’s core inflation rate hit 0.8% in June on higher energy costs', The Japan Times, viewed August 2019, ● Letts, S 2018, 'Inflation softens to 1.9pc despite surging fuel prices: ABS', ABC , viewed August 2019, ● Mutikani, L 2019, ‘WRAPUP 2-U.S underlying inflation stirring; labor market tightening’, Reuters , viewed August 2019, 30 School of Business & Management Group Assignment ● Ross, D 2018, ‘Giveaway sign Australia’s economic engine is failing to launch’, News Corp Australia , viewed August 2019, ● Roubini, N 2019, 'Why has the US Fed turned away from interest rate rises?', The Guardian, viewed August 2019, ● Sano, H 2018, ‘FOREX-Dollar crawls up but not out of woods as U.S policy doubts persist’, Reuters, viewed August 2019, ● Schuman, M 2018, 'Why Japan will never reach its inflation target', The Japan Times , viewed August 2019, ● Sheridan, E 2018, ‘AUD - RBA reiterates when and how it will intervene in the currency’, ForexLive, viewed August 2019, ● Shirai, S 2019, 'Bank of Japan's growing global challenges', The Japan Times , viewed August 2019, ● Skinner, J 2019, ‘The U.S Dollar: Beware of Strength this Week as Fed Begins to Cut’, PoundsterlingLive , viewed August 2019, 31 School of Business & Management Group Assignment ● Smialek, J 2019, ‘The Fed’s New Dot Plot’, Bloomberg , viewed August 2019, ● Szalay, E 2019, ‘Currency intervention: how would the US it, and would it work?’, Financial Times, viewed August 2019, ● Timiraos, N 2019, 'Why the Fed Is Cutting Rates When the Economy Looks Good', The Wall Street Journal , viewed August 2019, ● Vatsal, S 2019, ‘Dollar weakens as US-China trade truce revives demand for riskier currencies’, Reuters,  viewed August 2019, ● Watts, W 2019, ‘Currency intervention: Here’s how the U.S could move to weaken the dollar’, MarketWatch , viewed August 2019, ● White, S 2019, 'Japan January exports seen falling most in two years on Sino-U.S trade row: Reuters poll', Reuters , viewed August 2019, ● Williams, L 2018, ‘Australia central bank holds interest rates steady at 1.5 percent’, Bloomberg, viewed August 2019, 32 ... purpose of this report is to analyze the foreign exchange market and provide beneficial trading strategies for Techcombank The paper will examine FX past performances (2017-2019), current and forecast... profit and minimize risks By performing the tasks, my team will provide the best output that can be archived by the end of trading period School of Business & Management Group Assignment FX MARKET. .. Management Group Assignment TRADING STRATEGY I Primary objective The primary trading objective of my bank is to maximize the profit by trading the two pairs of currencies USD/JPY and AUD/USD