Strength goes to the strong
Following the recent currency market interventions by central banks in a bid to stabilise the seemingly unstoppable free fall of the euro, we asked you in this month’s ‘Off The Record’ to air your views on the predicament of the fledgling single currency.
What, if anything, should be done to bolster its fortunes? It didn’t take much to rouse some feisty comments.
Evidently, many of you were caught by surprise at the euro’s rapid decline. Fifty-four per cent of respondents state they thought the currency would remain stable against the dollar on its launch.
Hindsight is a wonderful thing, but a third of replies note that they did foresee the euro being buffeted from the start against the onslaught of a roaring greenback. A meagre 8% expected a rise – so the omens were not propitious from the start!
Over the longer term, however, the vast majority expected to see the euro slip on the currency markets – with around two-thirds predicting a fall over time. And views on why this should have happened tend to fall into two camps. One is that this is what happens with new currencies, the other that mismanagement has created the circumstances for a drop.
As one manager in the former category notes: “Any currency has to prove itself.” Another adds: “Currencies tend to trend and this only changes when the level is really felt as exaggerated.”
The next question might be: how exaggerated is exaggerated?
One pension fund manager uses a neat turn of phrase to describe a babelesque cacophony holding forth on Europe financial policy: “If every finance minister speaks ‘another’ financial language, how will the international markets know that there is someone independent in charge of the ECB?”
The view is underscored by another manager attributing the problem to similar European policy inertia – albeit on the macro-economic level.
“Europe needed reforms in labour law, taxation and social security which either didn’t take place or were too small.”
One manager, though, believes that it could just be psychology overriding reality: “I certainly didn’t expect as significant a decline as we have seen. The question now becomes, is a strong dollar a self -fulfilling strategy with assets gravitating towards it because its strength makes it strong?”
The general consensus amongst pension fund managers is that there has been an unfortunate lack of political co-ordination and infrastructure development that might have propped up the euro.
This is tempered somewhat by acknowledgement of the inexorable rise of the US economy, although some feel there are factors being overlooked here: “No consideration has been given to the deficit of the US balance of payments.”
Some comments are harsher: “This is blind love of the US,” says one manager. “German unification is the problem,” adds another.
One comprehensive response offers the argument that the initial value of the euro was “probably too high”.
“Prior to euro inception, the legacy currencies were already held by the central banks as reserves, so the touted move to the euro as the reserve currency was overblown. Initial positioning by the market was long euro via legacy positions that pushed the Deutschmark from around 1.80 to around 1.67. It took until March 1999 for the Deutschmark to regain the 1.80 level equivalent.”
Phew.... and what about the answers to the next question – has the European Central Bank reacted well or not to the euro chute?
One respondent immediate ly points out the possible folly of the demand. “I think the question is wrong, sir. The aim of the ECB is not to avoid or limit currency moves.” Possibly not…but that is what happened…
Sixty-nine per cent of you think the ECB has made the right decisions “some” of the time, which comes as a relief.
Only 15% of you believe the bank got it right the whole way though – perhaps indicative of some of the earlier vitriol. Just under 10% of the replies are scathing, saying that the ECB has limped from bad to worse in reputation on a downward par with the currency itself.
However, when we asked managers to put themselves in the shoes of the central bank by suggesting what the bank’s policy toward the euro should be, the answers were as mixed as some of the disparate statements of the ECB itself.
A number call for tighter fiscal policy: “Interest rates should be raised to prevent inflation creeping up. It wouldn’t hurt to be consultative with Euroland governments while maintaining their independence. Any central bank’s role is monetary policy, which hopefully harmonises with fiscal policy and other economic developments.”
Others believe the ECB should be hands-free when it comes to the euro: “Leave the bloody thing alone,” barks one. “Ignore it!” clamours another.
For the most part there was agreement, however, that the recent market intervention would have limited effect, was too late in coming and would not address the fundamental aspects of the problem.
Asked what you thought the correct exchange rate should be at the moment, a variety of answers came back, ranging from 0.87 to 1.05 – with an average of 0.93.
In terms of the range you see the currency moving in, most replies felt that between 0.9 and 1.10 were the most likely parameters.
Around half of the replies received though predicted that the euro may have bottomed out, for this year at least, with stability predicted for the next few months.
For 2001, around 70% feel the single currency will rise, with predictions averaging out at around the 0.90 mark.
And while over two-thirds of respondents have their funds based in the Euro-zone, it seems the effect of the euro’s decline has been relatively muted on Euroland portfolios.
A third of you say there has been no change at all and a couple note significant gains made on investment stateside: “ US dollar cash, bonds have done really well as a result,” says one.
“We gained an extra 2% return on the fund level – only 40% of our US exposure was hedged,” adds another.
There have been falls though: “We lost 6.5% against the Swiss franc in unrealised exchange losses on our euro bond exposure,” laments a manager.
Consequently, only 15% of funds have changed their asset allocation as a result of the currency dip, although there is some cautions as one reply shows: “Not yet … but…”
Some funds are looking closely at what they may need to do going forward: “Our overall performance has been badly impacted by the euro slide. We may rebalance in 2001 to compensate for the decline and reduce the dollar exposure.”
Indeed, the unpredictability of what may happen in the coming months – potential oil crisis and hard landing for the US economy included – seems to be prompting a more general re-evaluation of currency treatment. Almost half the responding funds saying they are considering adopting hedge strategies. A further 30% say they have them in place already.
No-one, it seems, in the light of recent fluctuations, is taking any chances!