Asian currencies that will benefit most from Fed interest rate cuts

The Fed shifted to a more dovish stance in December, with markets now pricing in interest rate cuts by the summer. the CME FedWatch tool He suggested that the first 25 basis point rate cut in 2024 could happen as early as June.

The Fed's January meeting concluded with the central bank keeping its benchmark borrowing rate in a range of 5.25% to 5.5%.

Currencies such as the Chinese yuan, Korean won and Indian rupee will benefit from the Federal Reserve's looser monetary policy, experts told CNBC.

China has weathered a series of disappointing headlines that have dented investor confidence. But hopes that the authorities will not allow the trade-dependent country's currency to weaken below a certain level have limited pessimism about the yuan.

China has tried to stabilize the yuan against the dollar in the past, and is expected to continue doing so, according to Arun Bharat, chief investment officer at Bel Air Investment Advisors.

“Although the exchange rate has weakened to a level of 7 on the USD/CNY rate, reflecting China's weaker economic situation, further weakness is unlikely as policymakers begin to take more aggressive measures in fiscal stimulus, credit growth, and support Real estate values,” Bharat said.

He noted that the Chinese currency's exchange rate is likely to hover in a “narrow range around the current exchange rate of 7.10.”

Unlike other major currencies such as the Japanese yen or the US dollar that have free-floating exchange rates, China maintains strict control over the domestic yuan. The currency is linked to the dollar's so-called daily midpoint, based on the yuan's previous closing level and quotes taken from interbank dealers.

Last year, the local yuan reached a 16-year low against the dollar at 7.2981.

If the Fed begins cutting interest rates by the summer, it will likely narrow yield spreads between the world's two largest economies and ease some of the pressure on the Chinese yuan. Yield spreads are a way to compare bonds by differences in how much they yield.

The People's Bank of China is a major player in managing the currency, which Simon Harvey, head of FX analysis at Monex, said could be done through daily stabilization, liquidity measures, regulatory channels, and directing state banks to intervene.

This last method is the most ambiguous, as the total value of the dollar in China's foreign currency reserves is unknown.

The Indian rupee could benefit from carry trades this year, a strategy in which traders borrow low-yielding currencies such as the US dollar in order to buy high-yielding assets such as bonds.

“There is a lot of carry trade against other currencies like the yen or the euro, but once US interest rates fall, we will see the interest rate differential widen to allow the carry trade to happen. So these are also positive for the Indian currency.” Anindya Banerjee, Vice President of Currency and Derivatives Research at Kotak Securities, said:

The rupee could also strengthen amid hopes that the Reserve Bank of India will ease monetary policy more slowly than other central banks.

Banerjee noted that the pace of rate cuts by the RBI would be “much slower” than the Fed and “will always lag significantly behind the RBI because India has not had the same inflation problem as Europe or America.”

“The reason is simple, because fiscal policy is working with all its might, the economy is doing very well and they don't want any overheating at this time,” Banerjee said.

The rupee has strengthened to as much as 82.82 against the dollar in the past three months. The currency fell by 0.6% in 2023, a much smaller decline against the dollar compared to the 11% decline the previous year.

The South Korean won has been under pressure for three years, but improving economic prospects and a more flexible Fed policy will help ease these pressures in 2024.

“As a low-yielding and highly cyclical currency, we believe the Korean won will be one of the main beneficiaries of the Fed's easing cycle in the second half of the year, as lower US interest rates will not only reduce pressure on the Korean won through the interest rate channel,” Harvey said. From Monex: “But it will also lead to a slight rise in global growth expectations.”

But Harvey said the won's gains will also be determined by the extent of the Fed's cuts. He expected the currency to rise between 5% and 10% if the easing cycle was deep, while it could reach 3% if the cycle proved to be shallow.

South Korea's economic prospects are also expected to improve this year. the International Monetary Fund It expected growth of 2.3% in 2024 and 2025, which is higher than last year’s growth of 1.4%.