King Dollar
When the global economy goes south, traders flock to safe haven currencies and assets. 10 Year US Treasuries (UST) have a positive yield, which on a relative basis makes them very attractive. As investors sell everything to buy UST’s, the USD will strengthen dramatically vs. most other fiat currencies.
This presents a very real problem for Grandma Yellen. While a strong dollar is good for the domestic US economy, it is not good for the majority of the world who are net short Dollars. Emerging market (EM) governments and corporates issued gobs and gobs of USD denominated debt. Many of these entities depend on strong commodity prices. A strong Dollar in most cases leads to commodity weakness.
As these EM borrowers rush to cover their short USD positions, it initiates a negative feedback loop that hastens the destruction of their balance of payments. Yellen is acutely aware of this problem and that is why the Fed cannot and will not raise rates in 2016. If anything, QE4eva is back on the table.
The Yen
The BOJ clearly does not want a stronger Yen. Abe-san and Kuroda-san will do anything in their power to push USDJPY back above 110.
During the good old non-volatile times, traders borrowed Yen, sold it, then levered up on other higher yielding assets. As long as USDJPY stayed flat or kept rising and volatility remained low, this strategy was very profitable.
The Brexit induced global market margin call forced traders to sell their positions, and buy back Yen. This is the driving force behind the Yen strength (aka carry trade unwind), and is why it is viewed in a negative light.
To coax traders back into the Yen casino, the BOJ will have to go nuclear. The problem is that they already own a majority of the Japanese Government Bonds (JGB) and equity markets. Therefore additional quantitative easing will be ineffective and impossible to implement. They tried negative interest rates and that backfired horribly. The next option is helicopter money. Print cash and hand it directly to the people and hope they buy something. This unsterilized money printing, if given enough time, will weaken the Yen back to the desired levels.
The Yuan
The PBOC cannot sit idly by and watch the USD rip higher. The PBOC tied its economy to the Dollar, and its rise is problematic.
This morning the PBOC devalued the Yuan by the most since August 2015. Traders who want to divine the future actions of the PBOC should watch USDCNH closely.
Because USDCNH trades offshore, anyone is free to buy USD and sell CNH to express the view of further Yuan weakness. If the USDCNH trades too far away from onshore and more controlled USDCNY, the PBOC will either buy CNH offshore or weaken CNY onshore to close the gap.
The market turmoil is only in its second day. We have yet to see real money begin rotating out of Europe into America. The onslaught of money seeking a home in US Treasuries will continue to exert upward pressure on the USD. Therefore, the PBOC will aggressively weaken the Yuan until Grandma Yellen cries Uncle.
Once it becomes clear that the Fed will cut rates and re-institute some form of money printing, the PBOC will halt the devaluation of the Yuan.
Bitcoin
The common theme above is money printing. Whether it’s Dollars, Yen, or Yuan, in the coming months there will be materially more of them sloshing around.
As global purchasing power falls due to rampant inflation, Bitcoin will become stronger.