Asian currencies seen undervalued vs US dollar

Asian currencies, especially the Philippine peso and Thai baht, are “undervalued” vis-à-vis the US dollar but are not expected to surge in the early part of 2012, according to a global research by investment bank BofA Merrill Lynch.

In a research dated January 4 and titled “Enter the Dragon: Asia’s 2012 Kicks Off,” BofA Merrill Lynch said Asia was off to a “shaky, but positive, start” this year.

The natural focus in this region will be on China’s macroeconomic policy and its implication for renminbi (CNY) appreciation and wider asset prices, the research said.

“Unfortunately, one lesson to be drawn from 2011 is that even with CNY appreciation, broader Asia FX (foreign exchange) appreciation is not necessarily guaranteed,” the report said.

The research said there was indication that China was still committed to its stance of a “gradual” CNY appreciation as demonstrated by the Chinese currency’s firm close in 2011. This came on the heels of the US Treasury report that absolved China of FX manipulation while recognizing that the currency is “persistently misaligned and remains substantially undervalued,” the report said.

Citing its own “Compass model”—which looks at currencies based on the equilibrium exchange rate consistent with a medium-term sustainable current account position—BofA Merrill Lynch suggested that the renminbi was 10.9 percent undervalued against the US dollar.

In the bigger picture, the research said the Compass model suggested that all Asian currencies remained undervalued with the Philippine peso and Thai baht as the “most extreme outliers” and respectively undervalued by 25.6 percent and 20.3 percent against the greenback.

The valuation was based on a peso-dollar exchange rate of 43.71. As of Thursday, the peso depreciated to 43.99 to the dollar.

BofA Merrill Lynch said that an alternative approach would be to look at foreign exchange valuations based on real effective exchange rates (REER) and their long-term averages.

Based on such REER valuation, the research noted that the Philippine peso and Thai baht were still undervalued, respectively by 24.4 percent and 19.1 percent.

REER measures an individual country’s currency value relative to the other major currencies with some adjustments for inflation.

Based on REER, the research said Asian currencies were still broadly undervalued with the exception of India, Singapore, Taiwan and Indonesia, which it said “appear fairly valued.”

But the research said Asian currencies were off to a difficult start this year.

“The difficulty with the premise of undervalued Asian currencies is that this currency block remains very pro-cyclical and vulnerable to negative growth shocks from G10,” the research said, referring to the performance of the world’s 10 wealthiest nations.

The research factored in a eurozone recession view, heightened risk aversion surrounding another financial crisis and volatile capital flows that could weigh down on Asian currencies.