The currency-market snoozefest might not last
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2 min read . Updated: 15 Feb 2021, 04:45 PM IST Foreign-exchange markets have returned to their pre-pandemic placidity even as stock-market volatility remains elevated
Premium 2 min read . Updated: 15 Feb 2021, 04:45 PM IST It is quiet in foreign-exchange markets. Maybe too quiet.
All the action has been in stocks this year, as any bored foreign-exchange trader will tell you. The market is usually a hub for raucous retail trading but has been largely quiescent during the meme-stock phenomenon.
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1 min read . 20 Apr 2021The risk of a rise in currency volatility is something worth considering for investors with overseas exposure, as well as for corporate treasurers.
Stocks are usually more volatile than currencies. But the gulf between the Cboe Volatility Index—the familiar VIX “fear gauge" that measures the volatility of S&P 500 options—and the Cboe EuroCurrency Volatility Index, which does the same for euro-dollar options, is large by the standards of recent history. The same is true for volatility in other currency pairs.
The trend is relatively new. For most of the past decade, equity-market and currency volatility ground lower and lower in tandem, with occasional concurrent spikes. But after markets began to recover from last year’s pandemic-induced selloff, the relationship was disrupted: Foreign-exchange volatility resumed its decline, but equity-market volatility settled at a higher plateau.
It is easy to rationalize why the VIX remains elevated. The pandemic has unleashed a lot of uncertainties, most notably about the speed of the economic recovery as Covid-19 cases decline. Surely much of that applies to foreign-exchange markets, too?
Mark McCormick, head of foreign-exchange strategy at TD Securities, notes that the growth gap between different countries and the volatility of their currency pair have tended to bear some relation to each other in the past. This makes intuitive sense, given that currencies can be a barometer of economic strength. But any relationship has broken down, with the differences in growth rates between countries still extremely wide.
Given the US dollar’s pivotal place in the global financial system, foreign-exchange volatility is really volatility in the greenback. That means the obvious source of risk to low currency volatility is a stronger dollar. Investors are still convinced that there won’t be interest-rate increases soon, but the U.S. yield curve has steepened considerably relative to those in other developed economies, as expectations for a stronger American recovery have increased.
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It is clearly possible for volatility in equities and currency pairs to remain disconnected for long periods. But investors with any exposure should be cautious. The risk that foreign-exchange markets become choppier to match the volatility of the stock market, rather than the other way around, is worth keeping an eye on.
This story has been published from a wire agency feed without modifications to the text.
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