Metrobank, a bank based in the Philippines, predicts that the peso is unlikely to decline to its previous record low of 59 pesos against the US dollar, even if the interest rate difference between the Bangko Sentral ng Pilipinas (BSP) and the US Federal Reserve becomes narrower.
In its latest bulletin, the bank suggests that the local currency is expected to remain around 56 pesos against the US dollar in the coming months, supported by strong inflows and steady growth in remittances from overseas Filipino workers.
Led by the Ty family, Metrobank anticipates that the USD/PHP exchange rate might exceed the 56-level in the next few months due to increased imports.
Still, it is projected to decrease later in the year when traditional remittances from OFWs flow into the country.
In October, the peso reached its all-time low of 59 pesos against the US dollar due to aggressive interest rate hikes by the US Federal Reserve to combat inflation.
However, the local currency recovered strongly by maintaining a favorable interest rate difference and actively intervening in the foreign exchange market.
It stabilized at around 53 pesos against the US dollar in February.
Despite initially performing well against other currencies in the region, the peso experienced a slight depreciation of 0.19 percent, settling at 55.86 pesos against the US dollar compared to the rate of 55.755 pesos against the US dollar at the end of 2022.
When the interest rate difference between the peso and the US dollar is significant, foreign investors find investing in the peso and its higher-yielding instruments attractive.
Conversely, when the difference narrows, foreign investors sell their pesos and convert them back to US dollars.
Observing trends over the past decade, Metrobank has noticed that the interest rate difference in policy rates between the two currencies has averaged 200 basis points (bps).
Still, it has now tightened to 100 bps.
This reduction in the difference raises concerns in the market about potential portfolio outflows, which could weaken the peso.
However, Metrobank’s analysis suggests that the central bank’s policy rates do not solely influence the USD/PHP exchange rate.
It has been found that the exchange rate also depends on the interest rate difference (IRD) between the 10-year peso government securities and US Treasury bonds, as well as the level of gross international reserves (GIR).
Metrobank emphasizes that the IRD between the 10-year Philippine and US bond yields consistently remains above 200 bps, close to its 10-year historical average of around 250 bps.
This yield premium attracts foreign portfolio investors to long-term peso government securities, easing the peso’s selling pressure.
This is particularly significant, considering that the BSP and the Fed are nearing the end of their rate hiking cycles.
Additionally, Metrobank highlights that gross international reserves (GIR), which serves as a buffer, remain strong at $101.76 billion as of the end of April.
This robust reserve level could support the peso and assist in managing volatility.
With inflation on a downward trend and robust GDP growth in the first quarter, the Monetary Board of the BSP concluded its year-long tightening cycle, resulting in a cumulative 425 bps increase in key policy rates, reaching a benchmark rate of 6.25 percent, the highest in 16 years.
Similarly, the US Federal Reserve has paused its rate-hiking cycle and decided to maintain steady rates, signaling two more interest rate increases this year, bringing the range from 5.50 percent to 5.75 percent.
Taking these factors into consideration, Metrobank believes that the BSP may no longer find it necessary to replicate every policy move made by the US Federal Reserve, as it did in the latter part of 2022.
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