The Coronavirus and Its Impact on the Forex Market

The Coronavirus and Its Impact on the Forex Market

Financial markets struggle to understand the impact of the coronavirus moving forward. 2020 so far, has been difficult for investors as no one could price in the impact of the new virus on the Forex market.

Studies have been written covering the correlation with other known diseases from the region – SARS, for instance. But this time, the fact that the virus spread so quickly led to many people wondering if humankind can fight it.

So far, it did. Slowly but surely, Chinese cities come back to life. Fewer fatal cases in China and across the world led to the belief that we can fight this disease with the same weapons as before – trust in each other, hard work, and efficient use of available technology.

The world celebrated the end of the quarantine for the people trapped on the cruiser on the coast of Japan. It symbolizes the trust to contain the virus’s spread and the know-how to find a cure as soon as possible.

However, South Korea reported one death related to the disease. Also, Japan is fighting a slowdown in retail sales and tourist numbers that would impact its declining GDP further. Let us all recall the weak Japanese GDP for the last quarter of 2019 and the quick-declining number in Hong Kong tourist arrivals, and we have a clear picture of what the virus is doing to the region.

The Biggest Losers – AUD and JPY

The Australian Dollar (AUD) was the first to react to the coronavirus’ outbreak. After all, it wasn’t difficult for the markets to anticipate a slowdown in Australian exports to China or Chinese exports to Australia. Both tend to impact trade, and that first impacts the currencies.

The Coronavirus and Its Impact on the Forex Market

The coronavirus effect on the FX market is best seen on the AUDUSD chart

It should come as no surprise for fundamental traders using the interest rate differential on the AUDUSD pair. The Fed’s federal funds rate exceeds the RBA’s cash rate, and a higher US dollar makes sense.

But the fact that Asia is facing problem extends more than simply interpreting monetary policy differences. The JPY recent decline tells us that the world is more concerned about the regional impact than the financial markets show.

Normally the USDJPY would rise with the stock market. Or, the JPY would decline when the stock market moves to the upside. Only this time, the JPY fell dramatically this week with little or no pullbacks. The move was especially seen on the USDJPY pair as it tends to correlate with the US stock indices.

USDJPY Trying to Break Higher

It is said that a currency reflects the economic strength of a country or region. While the appreciation or depreciation of a currency may come with a certain lag, it always reacts to the business cycle.

The first thing to look for in a currency pair is the interest rate differential. In Japan, Bank of Japan (BOJ) announced it keeps the interest rate to -0.1%, while in the United States, the Federal Reserve keeps the federal funds rate at 1.75%. The difference between the two dictates the relationship between the two currencies.

The Coronavirus and Its Impact on the Forex Market

USDJPY Trying to Break Higher

Since Trump’s election four years ago, the USDJPY pair only consolidated. The JPY pairs found buyers due to uncertainties related to the US-China trade war or North Korean missiles.

However, this week the pair seemed to have broken higher. There’s no doubt that the coronavirus impact on the Asian economies will first be seen in the regional currencies, and the JPY is one of them.

Tourism dropped dramatically in Hong Kong and Japan. South Korea reports an increased number of cases. Moreover, China continues to keep people at home, extending the holiday period in the areas with a large number of cases to the middle of March.

Eventually, all these factors will influence the regional output. If the rest of the world manages to contain the spread of the virus and the virus remains active in Asia, look for the Asian currencies to decline significantly against the Western counterparts.

A similar move lower we’ve seen in the Australian Dollar (AUD). It literally dropped dramatically against the US Dollar (USD) and the Canadian Dollar (CAD) – two currencies that have a higher interest rate than the Aussie. If we couple this with the exposure of the Australian economy to the coronavirus regions, the AUD is set to decline some more, unless the outbreak is contained.

Conclusion

To sum up, all the worries with the impact the virus has on the global economy reflect the interdependency of the world’s economies. We can’t say anymore that this is a local problem like in the past, as Asia plays a crucial role in global growth.

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