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Commentary on financial markets – March 2017

Highlights:

Netherlands: Geert Wilders’ party loses parliamentary election
USA: Donald Trump fails to push for Obamacare repeal

Comment:

European equity markets posted very solid gains in March, with European equities benefiting from relatively lower valuations compared to US equities and easing European monetary policy. In addition, investors were positive about the victory of the conventional parties over populist Geert Wilders in the Dutch parliamentary elections. This is the first victory for pro-European parties over those that seek to strengthen nation states and want more border closures, following Brexit, which has strengthened voices against the functioning of the single EU in other countries outside the UK.

In the United States, Donald Trump suffered his first major defeat when he failed to push through the repeal of his predecessor Barack Obama’s healthcare reform (Obamacare). Yet, just days before the vote, the US president assured that he would manage to get enough votes. In the end, he failed to win enough votes within his own Republican Party. The first loss on the Senate floor brings uncertainty to the markets as to whether President Trump will have enough support to push through his visions for the future direction of the US. His plans for tax cuts or high infrastructure spending had previously propelled US stocks higher, but now it is not entirely certain whether Donald Trump will have the strength to actually push through these plans.

Ending foreign exchange interventions in the Czech Republic:

The CNB’s commitment to keep the exchange rate above CZK 27/EUR expired on the last day of March. After three and a half years of foreign exchange interventions, central bankers can abandon the artificial depreciation of the koruna at any time. The total amount spent so far equals approximately CZK 2 trillion. Speculators on the currency pair, as well as the Czech public, are eagerly awaiting the moment when the exchange rate starts to move below the long-term set level, which will indicate the actual exit from this currency regime. There are many speculators waiting for the koruna to strengthen, with bets estimated to be as high as CZK 65 billion.

According to analysts, the months of April and May seem to be the latest date for the exit from intervention. During these two months, the central bank is very likely to decide on the exit from the koruna intervention. The majority consensus is leaning towards May, but with positive data from the domestic economy still coming in, it is possible that the central bankers will relax their hands during April. We are still waiting for inflation data to arrive in the second half of April, which could easily reveal what is going on in the minds of Governor Jiri Rusnok and his colleagues. Quite logically, the CNB could intervene today, but the likelihood for such an early date is minimal.

Once the intervention regime is abandoned, a gradual appreciation of the koruna can be expected, although there may be larger fluctuations up and down in the short term. Investors holding funds hedged in the Czech koruna do not face any risks from the exit. Of course, investors who invest in foreign currencies (especially EUR) bear currency risk, which is likely to be negative in the long run when converted into the domestic currency. However, currency risk should not be the main criterion when deciding whether to buy or sell an investment. The greater opportunity, and therefore risk, comes from market risk, which is the main driver of ultimate appreciation. Therefore, investors are advised not to make hasty tactical adjustments to their portfolios to exit foreign exchange interventions without consulting their investment advisor.

Czech households going on a summer holiday abroad will certainly not make a mistake if they wait for a more favourable exchange rate. After three and a half years, they will finally have a foreign holiday at fair (market) prices.

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