QUARTERLY GLOBAL OUTLOOK - Q3 2006
USD/SGD: A Choppy Quarter,
But Establishing New Trading Range
n An interesting quarter for USD/SGD, with the currency pair slipping to 8-year low of 1.5595 on 10 May 2006, before
rebounding to 1.6030 late June. The initial move was led by increasing risk of more RMB adjustment, especially after
the G7 meeting on 24 April 2006. This was followed by unwinding of global emerging risks, where Asian equities
corrected around 15-20% (between 10 May to 14 June).
n While some calm has returned over the last two weeks, risk aversion and global monetary tightening are not conducive
for risk-taking. Suggestion is that some 'normalization' will only return in Jul-Aug, which will be positive for Asian
equities and currencies.
n Notwithstanding any major domestic changes that will alter MAS SGD policy stance, the uncertain external
environment should keep USD/SGD in the range of 1.57-1.61 (likely 1.62) in 3Q-06. Beyond that, developments on
the RMB and possibly the BoJ to end its zero interest rate policy should take the centre-stage, which should weigh on
USD/SGD towards 1.55 year-end.
n Our view is that SGD NEER should continue to hover close to the stronger end of the policy band given the lingering
concerns over global inflation risk, and that SGD remains a proxy play for possible RMB adjustment.
n While risk is the Fed could deliver a 5.5% in August 2006, consensus is that rates could be heading lower in 2007,
possibly as early as 4Q-06. As such, our view is that SGD 3-mth interbank rates should peak around 3.6%, even as
construction related activities from the Integrated Resorts (IR) kicks in later this year.
n Meanwhile, our call is that SGD IRS rates should peak soon, as the Fed is likely to pause sometime in Aug 2006.
There is also risk pertaining to more RMB adjustment, especially in the run-up towards the first anniversary of the 21
July 2005 un-pegged, that is likely to weigh on SGD rates. These should cap the 2- and 10-yr IRS at around 3.8% and
An interesting quarter for USD/SGD, with the currency pair
USD/SGD Hovered Around
slipping to 8-year low of 1.5595 on 10 May 2006, before 1.6150-1.6400 for Most of 1Q 2006
rebounding to 1.6030 late June. It was after hovering
around 1.6150-1.6400 for the most part of 1Q-2006. The USD/SGD
initial move was led by increasing risk of more RMB Source: Reuters
adjustment, especially after the G7 meeting on 22 April 1.74
2006, where member countries specifically highlighted that 1.70
China needs to undertake greater FX flexibility. This was
followed by unwinding of global emerging risks, where 1.66
Asian equities corrected around 15-20% (between 10 May 1.62
to 14 June).
Among other things, we have highlighted two key factors 1.54
that will be critical in dictating USD/SGD direction over Jan-05 May-05 Sep-05 Jan-06 May-06
the next few months:
(1) Willingness of Beijing to allow more RMB adjustment;
(2) Return of global risk-taking activities;
Recent Measures by Beijing to Slow Down its Still Over-heated Economy…
28 April 2006: PBoC raised 1-yr lending rate by 27bps to 5.85% -- first time in 18 months, also widely seen as heading
off another investment boom which could result in overheating and destabilization in the economy longer-term.
UOB Economic-Treasury Research 1
30 May 2006: China announced measures to cool the property market, effective Jun 1, (i) the minimum down payment
ratio will be raised to 30% from 20%, (ii) levying a transaction tax on homes resold within five years and placing tighter
restrictions on lending to property developers.
21 June 2006: China hiked reserve requirement ratio 0.5% points to 8.0%.
Interestingly, one suggestion is that instead of "administrative measures" to curb investment spending over the last two
years, Beijing is now shifting towards "economic levers". Adding in USD/RMB below the psychological 8.00-handle, the
market is of the view that USD/RMB adjustments will be more significant in the months ahead. Certainly, that RMB trade-
weighted has depreciated 1.6% so far this year means China may be more willing to tolerate more RMB appreciation.
No doubt a logical explanation, and that the perceived undervalue RMB is one of the root problems of the excess
domestic liquidity situation, it is important to note that China is still struggling in its economic restructuring efforts. Thus,
we maintain our long standing view that any efforts to restructure the Chinese economy will remain gradual, and that
Beijing will at most deliver a 3-5% RMB adjustment per annum. Indeed, while we are maintaining a target of 7.78, some
are only expecting 7.80-7.85 by year-end (translating to 3.0-3.3% for the year). This is due to the meager RMB adjustment
of some 0.8% over the past 6 months. Thus, another 2.6% appreciation over the next 6 months is certainly a long shot.
For now, the market is watching the first anniversary of the RMB un-peg on 21 July 2006, where international pressure
for Beijing to do more is likely to intensify.
Unwinding of Global Risk-taking…
Unwinding of global risk-taking has weighed on Asian
Global Equities: While Have Corrected Significantly,
equities, thereby respective currencies over the last two Most are Still Doing Fine Since Jan 2006
months. While a return of risk-taking should help Asian
currencies (including SGD), our reading is that risk Diff between high-low of 2006
aversion is likely to stay for a while. Here, we identify some Ytd
key reasons: Source: CEIC
(1) Following the recent sharp correction, global 6%
funds have significantly cut back their leveraging 0%
ratio (in terms of exposure).
(2) The usual argument is that globalization has -24%
capped global price pressure, despite the surge -30%
in crude oil and more recently commodity prices. -36%
However, the worry now is that the second-round
N PS I
N HI S
effect is finally showing up. This has led to some
Asian CBs becoming a little wary, with many trying
to at least match nominal interest rates with
headline inflation figures (thus, maintaining a zero real interest rate environment).
(3) There is clearly a lack of clarity in the US interest rate direction - at least till the Aug 2006 meeting is out of the
way. Besides concerns over commodities related inflation working through the global system, the market is still
grappling with Fed Chairman Bernanke's communication mode.
While some calm has returned over the last two weeks, the market appears unwilling to load up large amount of risks.
Clearly, risk aversion and global monetary tightening are not conducive for risk-taking. This is also reflected in gold
prices well below previous 26-year high of $730/ounce recorded on 12 May, currently at about $600/ounce. The
precious metal fell to $565.65/ounce on 14 June 2006. Indeed, suggestion is that some 'normalization' will only return
in Jul-Aug, which will be positive for Asian equities and currencies. Nonetheless, keep watch on critical technical levels,
including Nikkei decisively above 15,500 and STI above 2,450.
UOB Economic-Treasury Research 2
QUARTERLY GLOBAL OUTLOOK - Q3 2006
Impact on USD/SGD Direction…
Notwithstanding any major domestic changes that will alter MAS SGD policy stance, the uncertain external environment
should keep USD/SGD in the range of 1.57-1.61 (likely 1.62) in 3Q-06. Beyond that, developments on the RMB and
possibly the BoJ to end its zero interest rate policy should take the centre-stage, which should weigh on USD/SGD
towards 1.55 year-end. Market is also watching developments on USD/MYR, where its trading band has increased
significantly. Over the last two months, the currency pair dipped to 3.5740, before rebounding back to 3.6945, translating
to a 3.3% fluctuation range. At year-end, we expect USD/MYR at 3.55.
A Healthy Domestic Economy
Although weaker-than-expected industrial production in
Critical Events in the Coming Months….
April-May (6.7%y/y vs 20.2% in 1Q06) suggested that
2Q06 GDP could see a slight q/q contraction, the domestic Date Events
economic fundamentals have remained strong. Singapore Jul 15-17 G8 summit (St Petersburg, Russia)
economy grew 6.8% (s/adj q/q annualised basis) in 1Q06 Jul 21 1 year anniversary of RMB regime change
following sharp 12.5% increase in 4Q05, which has led Jul/Aug BoJ to proceed with its first 25bps rate hike
Sept 11-20 IMF-World Bank meeting (Singapore)
the MTI to raise its full-yr growth forecast to 5-7% from 4-
Nov 7 US mid-term elections
6% previously. Certainly, some have questioned if the Nov US Treasury currency report
recent sharp market adjustment has affected global Source: Bloomberg, Reuters
fundamentals or perhaps of an erosion of global prospects.
Our assessment is neither. The IMF has also highlighted
similar views, saying that the recent sharp correction is a healthy and normal adjustment, and that fundamentals have
not shifted significantly - although it added that countries with over-valued FX and c/acct gaps will persist with volatility.
Overall, Singapore is on its way to surpass last year's growth of 6.4%, probably coming in at 6.7% for 2006.
Besides the impressive headline figure, the current growth momentum has translated to employment creation. Jobs
creation was at 45k in Q1-06, significantly higher than 33.4k in the preliminary estimate, and biggest rise since the Asian
financial crisis. Against 113.4k created in 2005, the market is now estimating jobs creation in excess of 125 this year.
Inflation Creeping in…
This is an increasing concern, as regional economies
gradually unwind fuel subsidies and commodity price Underlying Inflation within MAS Threshold
inflation creeps into respective system. For example,
Malaysian government raised fuel prices 23% on 28
February 2006, which resulted in headline inflation surging Perceived MAS underlying inflation threshold
to 7-year high of 4.8%y/y in March, before cooling off to
4.6%y/y and then 3.9%y/y in May (vs expectation of 3.0
4.1%y/y). Market is now watching 19 July CPI, which will 2.5
reflect the electricity tariff implemented on 1 June.
Latest Singapore's inflation remains benign in May, coming 0.5
in at 1.1%y/y (Mkt: 1.2%; UOB: 1.0%), and flat over April 0.0
(s/adj basis). Lower car prices have more than offset dearer
-1.0 Tightening bias
petrol in the month. Although headline inflation is expected -1.5
to spike up in June due to a low base effect, we expect the Jan-00 Jan-02 Jan-04 Jan-06
overall inflation outlook to remain intact. We should see
2Q06 headline CPI at around 1.3%y/y and full-year
capped at 1.4%y/y, unless oil prices move significantly higher from here. The underlying inflation has moderated to
1.7%y/y in May from a high of 2.3% in January. For the full-yr, we expect core inflation around 1.8% -- well within the
MAS projection of 1.5-2.0%.
UOB Economic-Treasury Research 3
Monetary Policy Implication…
The MAS kind-of surprised the market with a no change in SGD policy stance at its April meeting, indicating that the CB
is not too worried about long-term price pressure. With global growth likely to moderate into 2007, our call is for no
change in MAS policy anytime soon. In fact, we would not be surprised that the MAS will keep its current policy stance
for the next 12-18 months.
UOB Estimation of SGD NEER (daily averages) UOB Estimation of SGD NEER (daily averages)
USD/SGD (daily avg)
Lower end: 2.0%
Upper end: 2.0% SGD NEER
New band: lower end Mid pt of est policy band
New band: upper end Lower end
Central tendency Upper end
Source: CEIC, UOB Source: CEIC, UOB
1.85 1.85 160 160
1.80 1.80 155 155
1.60 1.60 140 140
1.55 1.55 135 135
Jan 03 Jul 03 Jan 04 Aug 04 Mar 05 Sep 05 Apr 06 Jan 00 Dec 00Dec 01 Dec 02 Dec 03Nov 04 Dec 05
SGD NEER Implication…
Despite no change in policy stance at the Apr 2006 meeting, on-going global monetary tightening has left SGD NEER
hovering close to the stronger half of our in-house policy band. Going forward, our view is that SGD NEER should
continue to hover close to the stronger end of the policy band given the lingering concerns over global inflation risk, and
that SGD remains a proxy play for possible RMB adjustment. Assuming a 2% appreciation of the policy band, we expect
another 1% appreciation over the next 6 months.
SGD Interest Rate Direction
Despite a still weak credit growth environment, SGD interest rates have been creeping higher, with the 3-mth SGD
interbank grinding towards 3.5% after hovering around 3.4375% in May as the market priced in higher US rates. While
risk is the Fed could deliver a 5.5% in Aug 2006, consensus is that rates could be heading lower in 2007, possibly as
early as 4Q-06. As such, our view is that SGD 3-mth interbank rates should peak around 3.6%, even as construction
SGD IRS Dictated by USD/SGD Mood SGD IRS Dictated by USD/SGD Mood
2-yr irs 10-yr irs 2-yr irs 3-mth SGD SIBOR
3-mth SGD SIBOR USD/SGD (RHS) USD/SGD (RHS)
Source: CEIC, UOB Source: CEIC, UOB
4.0 1.75 4.0 1.75
1.5 1.55 1.5 1.55
Jan-05 Apr-05 Jul-05 Oct-05 Jan-06 Apr-06 Jul-06 Jan-05 Apr-05 Jul-05 Oct-05 Jan-06 Apr-06 Jul-06
UOB Economic-Treasury Research 4
QUARTERLY GLOBAL OUTLOOK - Q3 2006
related activities from the Integrated Resorts (IR) kicks in later this year. Beyond that, however, we could see the 3-mth
SGD interbank back towards 3.4% as the Fed begins its easing cycle.
Perhaps, more interestingly is the long-dated yields. After flattening out over the last few weeks, we are beginning to see
some 'normalization' on the 3-mth interbank and 2-yr IRS, with the spread widening to about 22bps. Besides unwinding
of SGD longs, the move was motivated by the Fed continuing its rate hike campaign. In Jun 2006, the 2-yr US Treasuries
yields edged up about 25bps to around 5.25%, while the 10-yr Treasuries were up 23bps to 5.23%. As a result, the 2-yr
SGD IRS is now at 3.72%, up about 17bps in the month of June. Longer-dated 10-yr IRS is now at 3.88%, up about
13bps over the same period.
Going forward, our call is that SGD IRS rates should peak soon, as the Fed is likely to pause sometime in Aug 2006. There
is also risk pertaining to more RMB adjustment, especially in the run-up towards the first anniversary of the 21 July 2005
un-pegged, that is likely to weigh on SGD rates. These should cap the 2- and 10-yr IRS at around 3.8% and 4.0%,
UOB Economic-Treasury Research 5