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What the FX: The countdown to the US election

The US election is nearly here. The impact on financial markets is inevitable, but how could it affect your exchange rates? Find out what to watch, and how you can take advantage of currency swings.

The Presidential election is nearly here

After months of campaigning, countless headlines and two presidential debates, we’re now just days out from the US election on November 3. At the time of writing, polling is suggesting a Biden win, and the financial markets and investors have already begun to factor this into the value of currencies. However, the shock of the 2016 result,2 tells us that we can expect the unexpected, right until the winner crosses the finishing line.

This is an unusual year, with multiple factors compounding the uncertainty we typically see leading up to an election. The last few weeks have thrown some curve balls including one of the candidates contracting COVID-19, a new Supreme justice being confirmed in record speed, ongoing negotiations on COVID-19 economic relief and speculation there could be a contested election result.

One thing is for certain, we are bound to see increased volatility in currency markets in the coming weeks, so anyone who needs to move money either into or out of US dollars should be looking to use this volatility to their advantage.

Uncertainty is typically a key driver of USD strength

Typically, uncertainty contributes to a risk-off environment and helps strengthen safe-haven currencies, including the USD. This has been an important factor in the recent USD recovery since mid-September as we approach the election and US fiscal stimulus continues to be delayed.

In the lead up to the election, markets are continuing to take direction from updated polling and evolving headlines. If the likelihood of a Democratic sweep under Biden increases, the USD may come under added pressure as investor risk appetite improves. This is partly based on expectations that the Democrats are more likely to approve a sizeable relief package that would help guide the economy out of pandemic-driven challenges.

When risk sentiment increases, equity markets rise and the US dollar falls, and investors are generally willing to take on more risk. This makes the commodity currencies (AUD, NZD and CAD) more attractive.

With this in mind, continued improvements to the risk narrative should at the very least provide support to commodity and growth currencies. However, a shock election result and worsening COVID-19 environment could prompt a risk-off shift and a rush toward the USD and other safe-haven currencies. But for how long? Sebastian Schinkel, Head of Treasury at OFX agrees that while considerable volatility is likely in the short term “market fundamentals such as interest rates, a slowing job market recovery and the accommodative monetary policy from the Federal Reserve are aligning for US dollar weakness in the mid to long term.”

Not just who wins, but how convincingly

With currency markets already factoring a Biden win into the value of currencies, shifts to this scenario and any Trump momentum will prompt markets to adjust positions and open the door to greater volatility. 

Perhaps one of the most important outcomes will not just be who wins the White House, but whether or not the Democrat party can win control of both the Senate and the House of Representatives. In particular, the control of the Senate will be hotly contested and while a Democrat win is looking more likely, changes in outcome expectations could prompt volatility.

If the status quo is maintained, we expect that financial markets should be more stable until we have a definitive outcome.

Markets will be highly attuned to results as they are released 

The US operates within an electoral college system whereby the candidate with the most electoral votes, not the most populate votes, wins the election. Why is this important? Basically, as seen in 2016, the results in certain states will have an outsized impact on the outcome of the US election. With party lines firmly established in most states, the results in 8 key swing states3, especially those with a high number of electoral votes, such as Florida and Pennsylvania, become even more critical to the overall outcome. Whether these states vote for Biden or Trump will give a strong indication of the likely winner or suggest a tighter race than currency markets anticipated, which could trigger volatility.

This year, the huge increase in mail-in voting due to COVID-19 will likely lead to a change in the way the results are announced. With a record number of early votes being cast4 and most states not being allowed to start their count until election night5 (although a few notable exceptions include Florida, Arkansas and Maryland6), there’s a possibility that we will not know the result for days, or even weeks, which could extend the window of volatility.

What if the election results are contested?

Any further comments from either party around contesting results or refusing a peaceful transfer of power will undoubtedly create uncertainty and could drive up the value of the USD due to safe-haven demand until it's resolved. Both sides are already lining up legal arguments to defend their positions should the election results be contested. 

What should you do now?

So now you know the factors that could impact volatility, what can you do about it?

The most important thing is to be prepared. Ensure that even if exchange rates move against you, you can still meet your budget/profit goals. An OFX Forward Contract allows you to transfer money up to 12 months in the future at an exchange rate that you agree to now.

Once you are protected, you could then consider taking advantage of any upside. With swings in the US dollar likely to go both ways, those who are buying or selling USD could have the opportunity to buy low and sell high. Check historical rates, particularly points of support (the bottom of a recent trading range) and resistance (the ceiling of a recent trading range) to determine your target high or low rate.

OFX tools allow you to target this rate, which should be more advantageous to you than the current levels. Sebastian Schinkel, OFX Head of Treasury encourages clients to put Target Rate Transfers in place to take advantage of the increased likelihood you will hit your target in the coming weeks, due to volatility. “If you set up a Target Rate Transfer, you don’t have to worry about missing an opportunity when rates move in your favour, because we will automatically make the trade for you,” Mr Schinkel explained.

Still feeling a little overwhelmed with currency swings? Whether you’re waiting for the right exchange rate, or just need a little support with the transfer process, our OFXpert team is here to help 24/7. Contact us today.

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1https://www.theguardian.com/us-news/2020/oct/26/us-election-polls-tracker-who-is-leading-in-the-swing-states
2https://www.theguardian.com/us-news/2020/oct/26/us-election-polls-tracker-who-is-leading-in-the-swing-states
3https://www.telegraph.co.uk/news/0/swing-states-what-key-battleground-2020-election-who-leading-polls/
4https://news.sky.com/story/us-election-2020-surge-of-early-voting-hits-record-levels-ahead-of-us-election-12114763
5https://www.npr.org/2020/10/23/926258497/when-will-mail-in-ballots-be-counted-see-states-processing-timelines?t=1603747183423
6https://www.npr.org/2020/10/23/926258497/when-will-mail-in-ballots-be-counted-see-states-processing-timelines?t=1603747183423

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