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Risk-off in, Risk-on out with Guam Threatened by Missile Attack

By Patrick Higgins  |  09/08/2017 12:50
Following a recent war of words between North Korea and the US, risk-off currencies have risen considerably, while risk-on's have slumped.
In the wake of President Trump's inflammatory promises to respond to any North Korean nuclear threat with "fire and fury", North Korea revealed its plans to carry out large missile strikes on the American island of Guam.  Guam, an island of 160,000 inhabitants and a heavy military presence, is just about 3,400 kilometres from North Korea.  The relatively close distance puts the island well within range from North Korean ICBMs.
The Swiss franc and the Japanese yen, the most widely sought risk-off currencies, saw jumps against the dollar both yesterday and into this morning.  The franc within the last two hours saw a rise of 0.6% to 0.9688 against the dollar.  Also, the franc strengthened to 0.9611 against the euro yesterday, a 1.4% increase and the largest such gain against the euro since January 2015, when the Swiss National Bank removed franc currency caps.  These increases reverse two-week declines seen in the franc.  Furthermore, the yen, another currency typically regarded as a safe-haven, has strengthened at the dollar's expense.  The dollar fell by 0.3% to 109.94 this morning, a slight rebound from a further slump of 109.740, making up the weakest rate since June.  Such developments are not uncommon, as frenetic investments into both the franc and the yen are seen during periods of geopolitical uncertainty.  The sudden increase in value most likely disrupted leveraged bets against the franc, as the usually lower-yielding franc is a preferred favourite for currency carries with euro assets amongst hedge funders.
The escalating tensions, especially in the wake of continued North Korea missile testing, have sent markets into panic.  With such a drastic rise in conflict, risk-off sentiments have not been dominated solely by currency valuations.  For example, major European index futures have followed in the wake of Asian indexes with overall posted declines of 0.5%-0.8% since yesterday.  Furthermore, leveraged bets with risk-on currencies, such as the Australian dollar, have taken significant hits.  The Australian dollar, which was at a 19-month high of about 90 yen at the end of July, declined today by 0.6% to 86.77.
Though it is doubtful whether North Korea will execute its plans of a missile strike on Guam, the bickering between Pyongyang and Washington is doing little in terms of benefitting the markets.  Besides the obvious negative impacts on hedge-fund leveraged bets, the continued clashing of horns in Asia could bring about a ‘cry wolf’ mentality.  The markets face the possibility of numbing to such grand statements and fail to react in the future, even if these predicted clashes became a reality.  Though it is doubtful North Korea has developed the technology to send its ICBMs into space, or the ability to fit a nuclear warhead onto said ICBMs correctly; the reclusive country continues to push forward with the development of its ballistics programme.  This defiance is entirely in the face of increasingly strict UN sanctions (fresh sanctions were passed by the UN just last Saturday).  Though any preempted strike from Pyongyang on American military installations or civilian populations would end up unilaterally putting an end to the Kim regime, North Korea could still inflict heavy loss on South Korea and Japan.  Should Pyongyang be backed further into a corner in the future, whether militarily or diplomatically, the possibility of missile strikes could become more likely.  For now, it is unclear what North Korea could do, or indeed is prepared to do, given the vast global consequences military action would cause.


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