What are safe haven currencies?


You may have heard of ‘safe-haven currencies’ and found yourself scratching your head about what these words mean. Aren’t all currencies supposed to be safe? Unfortunately the answer is no. Paper currencies are only as valuable as the reputation of the government that is backing them. Any country could one day decide to devalue its currency, by setting a new fixed rate or by signaling to the market that it will not tolerate an exchange rate above a certain level. To the average person living in a country whose currency is devalued, the money that they have in their wallets or bank account is suddenly worth X per cent less. Currencies also increase and decrease in value based upon government’s fiscal and monetary policies. Lately, there has been a great deal of concern about large and growing deficits in many parts of the world – leading investors to wonder if currencies are even worth the paper that they are printed on.
Safe–haven currencies are currencies that investors park their money in during times of distress. These currencies are favoured by investors during times of crisis because of how easy it may be to get in and out of the currency (its liquidity) and because of the country’s economic or political stability. Typically, the countries with the lowest rates are considered the safe havens. These economies will generally have a secure government and a long track record of stability, but they do not necessarily have to be the best performers or the healthiest economies. The role of the safe haven can change depending upon investor uncertainty and risk aversion. Over the past year, the US dollar, Swiss Franc and Japanese Yen have been the world’s favorite safe haven currencies.
Despite non-existent growth in the US and interest rates at basically zero, the US government’s need to tighten its belts to rein in the deficit and the Federal Reserve’s plans to increase monetary stimulus, which would erode the value of the dollar even further, investors continue to buy the American currency. The reason is because the outlook for the global economy remains very uncertain and the fear of another blow up in Europe or a reversion back to recessionary conditions for the US has kept safe haven currencies in demand. With its low yield and liquid financial markets, the US dollar remains one of the most popular harbours for safety even after Standard & Poor’s downgraded the US’s triple-A credit rating one notch to double-A-plus because, at the end of the day, there are few alternative safe-haven assets out there that can match the depth and liquidity of the US Treasury market.
Japan may be mired in stagnation, but the Japanese Yen has long been a safe haven currency. The reason is because of its net international investment, and it is a trade surplus country meaning that the Japanese own more foreign assets than vice versa. The Swiss Franc is also a popular safe-haven currency because of its political stability, low unemployment, steady growth and relationship with gold. However safe-haven currencies can change with time and the recent efforts by the Swiss National Bank to combat the voracious demand for their currency has significantly diminished its attractiveness as a safe haven. In their most aggressive attempt to fight against Swiss strength, the SNB intervened in the market and said it will do all that it can to prevent the EUR/CHF exchange rate from falling below 1.20. In other words, it has effectively devalued its currency. Most countries hate a strong currency because it makes their products more expensive on the world market. Export dependent countries such as Japan and Switzerland actively come into the markets to try to weaken their currency. Often their efforts are wasted, but sometimes it is effective and for the Swiss Franc, this could be true.
As we have seen with the Swiss, safe-haven currencies change with time so it is important to know which currencies are considered safe havens and which are not because volatility isn’t disappearing anytime soon. The Australian dollar, for example, is the antithesis of a safe-haven currency. Even though Australia has a strong economy, particularly when compared to the rest of the world, and a healthier balance sheet, the country and its economy are very small and extremely dependent on the global economic cycle. The Australian economy does well when the Chinese and US economy are healthy, and hits a road bump when growth in its trade partners start to slow. When global growth is strong, the Australian dollar tends to outperform other currencies but when growth is weakening both locally and abroad, the Australian dollar can suffer significantly even if its economy is performing well as investors dump higher yielding currencies and seek safety in lower yielding ones.
This chart shows how the G10 currencies have performed against the Australian dollar since the beginning of the year. The Swiss Franc has been the best performer while the US dollar has been the worst. The reason why the Australian dollar has held up so well this year despite the volatility in the markets and the desire for safety is because investors around the world are hunting for new safe havens and have found some attractiveness in the AUD. However, investors should be careful about looking at the AUD as a safe haven because if there is a strong reason for investors to be nervous, such as another economic blowup in Europe, the Australian dollar will most likely under-perform because of risk aversion. In normal conditions it may perform well, but the markets are anything but normal these days.

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