The fortunes of major economies are diverging, interest rates are changing fast and inflation is stifling growth. While all these trends play out on the wider economy, they also have a significant impact in foreign exchange markets; currency uncertainty and fluctuations can quickly turn profits to loss. 

Investors, business owners and currency speculators all need to ensure a robust risk strategy, so we asked our expert, FX Product Specialist Mark Simmonds, to take a deep dive into the challenges and tactics for forex today.

What are the current issues impacting FX?

“The US dollar is in a firmly established bull trend at the moment, though some market participants are speculating that the Federal Reserve may have reached peak hawkishness,” says Simmonds. 

“Sterling, meanwhile, is very much akin to a risk asset in the currency market. It trades well when the mood is positive – most recently when we were emerging from lockdowns in the UK. 

“But it’s since been bitten by the fact that the pandemic hangover hasn’t yet been consigned to history. Comparably, we’re experiencing the most elevated level of inflation in Europe, combined with the impact of ongoing political instability and a fragile growth outlook.”

What is the global view on FX?

“The Japanese Yen is an interesting one,” highlights Simmonds, “Especially in terms of tightening monetary policy and raising rates. There are similar inflationary pressures there too, only at lower headline levels. 

“The Bank of Japan is sticking to their very loose policies and not really offering the market any clues or hints that they intend to embark on a tightening process. And, as such, the Yen has probably had one of its worst halves for some time – since the beginning of the year it’s conceded almost 20 per cent against the dollar. 

“Most, if not all, of the other G10 central banks have been making the correct noises about being on a tightening cycle, but until Japan gets there, we're unlikely to see a marked recovery.” 

How are inflation and interest rates interacting with FX?

“Originally, everyone believed that the inflation signals we were seeing in 2021 would be ‘transitory’, but this clearly hasn’t been the case,” says Simmonds. “As such, we have a very hawkish Federal Reserve, with the Bank of England (BoE) and European Central Bank trying to keep pace, within their respective frameworks. 

“Markets were so accustomed to loose monetary policy and extremely low interest rates, and what we’ve seen so far in 2022 has sent shockwaves through all asset classes. In terms of what happens next, our global research team expects the UK base rate to reach 2.25 per cent by the end of the year.” 

“In the current climate, the purchasing power of particular currencies is impacted,” says Simmonds. “At the moment, UK inflation is likely to be slightly elevated with sterling's weakness now a contributory factor. We're an importing economy as well. So, the knock-on effect of a weak pound is that we're paying more for our overseas trade, whether that be with the US or even Europe. 

What do people need to be aware of when trading FX right now?

“We tend to look at it through a wealth preservation lens rather than a wealth creation lens, which means we take a slightly more cautious approach when it comes to participating in the FX space – especially because it is such a finely balanced market at the moment,” explains Simmonds. 

“The moves of the first half of the year have been quite pronounced. As we move into the second half of the year there is concern that we might have reached peak Federal Reserve hawkishness. If that is the case, how will the dollar react to a notable easing of inflationary pressures? 

“Similarly, we have new projections for Bank of England hikes over the coming months, but how will sterling behave if the BoE fail to satisfy them? Have we reached the bottom in GBPUSD or is there further to go?

“Keeping all of this front of mind, currency speculators will be trying to gain as much value as possible. It’s important to be selective, finding the best entry levels to trade, often opportunistically with the heightened volatility we’re experiencing.

“We also advise our clients to make sure that any currency exposure that is intentionally or unintentionally created within their portfolios is well-balanced. There may well be positions acquired over the years that need to be rectified. It’s a case of looking closely at portfolios and making sure that any detrimental moves in the FX market do not considerably impact clients’ wider investments. 

“On the other hand, many people will be benefitting from the current position of the dollar. While enjoying the trend in the present, they should also be thinking about hedging opportunities for future USD income streams at these advantageous levels.” 

Should people be thinking about FX when considering buying a holiday home?

“It all comes down to that value angle again,” remarks Simmonds. “Most people who are embarking upon purchases in other denominations will be aware of the fact that there is an exchange rate risk according to relative sterling strength. 

“If someone wanted to buy a ski chalet in the Swiss alps, for example, the value of sterling at the moment doesn't always have to be the primary consideration, because they can hedge themselves accordingly. By hedging that exposure going forward until such time as they wish to sell the property, they wouldn't necessarily have to be concerned about currency fluctuations.”