(Bloomberg) -- Taiwan’s currency may again underperform its Asian peers in any rally after the Federal Reserve starts easing policy, given a considerable interest rate disadvantage and local firms’ stronger incentives to hold the dollar.
The Taiwan dollar rose 2.8% against the greenback in August, when the latter weakened globally after softer US data and shifting Fed rhetoric cemented expectations of a rate cut in September. The gains pale before those of top regional performers such as the Malaysian ringgit and Indonesia’s rupiah, both of which jumped at least 5%.
Chief among the constraints for the island’s currency is a persistently wide yield discount to the US, which would maintain demand for the dollar to fund carry trades seeking higher returns. A central bank wary of eroding export competitiveness and relaxed hedging rules for domestic life insurers, which are big foreign exchange users, also may slow local currency appreciation.
Furthermore, Taiwanese companies’ efforts to ramp up offshore investment in areas from the US to Southeast Asia, so as to trim their exposure to mainland China, means their appetite for the US dollar will remain strong. Similarly, the upcoming US presidential vote also poses uncertainties over relations across the Taiwan Strait, triggering more currency volatility.
“The Taiwan dollar could see some factors that may not impact other Asian currencies as much, such as the US election developments, tech sector developments, etc.,” said Lynn Song, chief Greater China economist at ING Bank. “Until those uncertainties are resolved it may be reasonable to expect the lag to continue.”
Fundamentally, Taiwanese exporters’ low rate of currency conversion from the dollar stems from the popularity of carry trades that finance purchases of higher-yielding foreign-currency assets by borrowing the Taiwan dollar at lower interest rates.
Taiwanese companies’ rising structural demand for overseas investment is another factor, according to Chun Him Cheung, strategist at Bank of America Corp. “Much of this increase in foreign investment is driven by de-risking their manufacturing capacity away from mainland China.”
Bank of America recommends selling the Taiwan dollar against the South Korean won via non-deliverable forwards to capitalize on the different currency dynamics between the two Asian rivals of tech exports.
The latest move by Taiwan’s financial regulator to reduce the burden of life insurers’ foreign-exchange hedging costs will also weigh on the local currency. Such hedging has been partly behind the recent rebound of the Taiwan dollar.
Also generating caution is policy risk from any excessive gains in the Taiwan dollar, a hurdle for the local tech industry to maximize the benefits of the global frenzy about artificial intelligence.
Barclays Bank sees the dollar/Taiwan dollar pair, which was at 31.94 Friday, have technical support at 31.5-31.8 in the near term, “as the central bank may step in to curb the pace of further TWD appreciation,” according to the bank’s strategist Lemon Zhang.
Goldman Sachs Group Inc. foresees the exchange rate to rise toward 33 by late November.
To be sure, some analysts are more upbeat about the Taiwanese currency’s prospect, citing the likely benefits from inflows into emerging-market stocks in the aftermath of Fed rate cuts. The recent rallies in the yuan and yen may also spill over to Taiwan.
“Don’t think this round of Taiwan dollar appreciation is over yet,” said Ju Wang, Greater China FX & rates strategist at BNP Paribas SA. “Lifers rule change will affect medium term but the market needs to catch up with the yuan move.”
That said, the US presidential vote remains a big overhang.
Citigroup Inc. flagged the Taiwan dollar as a candidate for shorting against the dollar going into November. The island’s currency looks “vulnerable” to tariff and election risks and also faces headwinds from an uncertain macroeconomic landscape, the bank wrote in a note Thursday.
Here are the key Asian economic data this week:
- Monday, Sept. 2: China Caixin manufacturing PMI, Indonesia CPI, Japan capital spending, India HSBC PMI manufacturing, Taiwan S&P PMI manufacturing, Singapore PMI
- Tuesday, Sept. 3: Australia current account, Japan monetary base, South Korea CPI
- Wednesday, Sept. 4: Australia GDP, China Caixin services PMI, South Korea foreign reserves, Hong Kong S&P PMI
- Thursday, Sept. 5: Australia trade, Malaysia rate decision, Philippines CPI, Singapore retail sales, South Korea GDP, Taiwan CPI, Taiwan foreign reserves, Thailand CPI
- Friday, Sept. 6: Japan household spending, Thailand gross international reserves, Indonesia foreign reserves, South Korea current account balance, Malaysia foreign reserves, Philippines unemployment rate, Philippines foreign reserves, Vietnam industrial production, CPI, trade
--With assistance from Argin Chang and Betty Hou.
©2024 Bloomberg L.P.
