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Ruble crashes, FX turns to loonie

by Ashraf Laidi

Russia’s shock rate hike by 650 basis points prompted a short-lived bounce in the rouble, only to see it falling to a new low of 79.10 rouble per US dollar and as much as 100 roubles per euro.

The renewed plunge in the rouble, despite policy tightening, raises serious questions about the implications of collapsing oil prices.

Russia has so far managed to cope due to its large stash of foreign exchange reserves, at $360 bn (excluding gold) — the sixth largest of any country, as well as a low debt-to-GDP ratio. But accelerating outflows and early talk of layoffs by Rosneft will tip the nation into recession next year, with an anticipated GDP contraction of more than 4.5%.

The combination of a tumbling currency, soaring interest rates, creeping risk of inflation and a recessionary environment raises the risk of a downgrade in Russia’s credit rating as higher rates and falling reserves raise the servicing of foreign debt.

This situation could be worsened if Russia announces a complete abolition of USD circulation, which would only accelerate rouble outflows, and accelerate destabilising FX speculation against the rouble.

Inevitable contagion into BRICS FX

As contagion in currency markets tends to spill onto the rest of emerging markets, the current tumble in commodities will weigh on all BRICS with the exception of India.

Brazil has been hit by its status as a leading exporter of sugar and soy beans, both of which have fallen 10% and 20% so far this year, in addition to eroding oil hitting national oil champion Petrobras

China is in its 42nd consecutive month of produce price deflation, while consumer inflation hit a fresh five-year low. Prolonged manufacturing overcapacity and price-cutting pressure on retailers are to blame. Once corporate China starts to feel the bite of eroding profit margins, job growth will further slow and weigh on the all-important household income growth.

India is the sole beneficiary due to heavy dependence on oil imports, but its increasingly liquid currency may fall victim to being grouped as an EM currency victim. Yet the long term underpinned by faster implementation of budget reforms could help the rupee become the preferred candidate of dip buying.

Loonie is no ruble

The worst performing energy currencies so far this year have been the Russian rouble, down 54%, followed by the Norwegian krone and Mexican peso at -19% and 12% respectively. The Canadian dollar has lost 8.5%, followed by the Aussie at 8%. The negative oil factor will remove 0.20% to 0.30% from Canada’s GDP, but may not go as far as obliging the BoC to slash rates. In Canada, mining and energy account for a third of exports, half that of Australia’s exposure to the ailing sector. And unlike Australia’s exposure to aslowing China, Canada’s dependence exposure to the US comes with the benefit of a falling loonie and a recovering US economy. Loonie has defied worries of an overvalued housing market as the BoC remains the only G8 central bank to not descend into quantitative easing, leaving its overnight rate at 1.0%, higher above the rest, and unchanged for a record 65 years. The erosion in oil prices will undoubtedly impact Canada’s oil revenues, but tightening labour markets and better readiness to adapt to the slowdown in mining and gas than Australia shall continue to reward its improved yield differential with the land from down under. While AUD/CAD is expected to lose further ground towards 0.90 cents, a more attractive Aussie play is targeting 0.78 cents against USD and 1.56 against the euro. USD/CAD is already nearing a popular target of 1.17, but a less obvious play is shorting CAD/CHF, targeting 0.78 as the Swiss National Bank struggles to weaken its currency.

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