One of the biggest stories of 2010 was the beginning of a currency war in which nations fought to maintain export competitiveness at all costs. Usually the preferred strategy of central bankers around the world has been to avoid the weakness in the dollar and ensuing strength in their own nation’s currency by buying up dollars and thereby making their exchange rate more favorable to exporting firms. This tactic has been especially popular in South America where a number of surging nations, including Colombia and Brazil, have sought to maintain export competitiveness by selling their home currency on the open market. While the long-term impact of these moves remains questionable, it hasn’t stopped others from joining the fray, including most recently, Chile.
Late Monday, the Andean nation’s central bank announced a plan to weaken the peso against the dollar by making over $12 billion in dollar purchases a day through February 9th. The plan, which will buy up roughly $50 million a day for a little over a month, is the first time since April 2008 that the country has engaged in forex intervention. When first announced, the program sent the Chilean peso plunging against the dollar by close to 4.5% on the day and sent Chilean markets down sharply as well [see all the ETFs in the Currency ETFdb Category].
In fact, during Tuesday trading Chile’s main ETF, the iShares MSCI Chile Index Fund (ECH), plummeted by 3.6% in the session as investors worried that the move was just the first of many government interventions and that harsher measures would have to be imposed in order to make the peso’s level stick at a more favorable level. “As long as investment flows are going into [emerging markets] due to strong underlying fundamentals, there’s not much EM policy makers can do except lean against the wind.” wrote Win Thin, global head of emerging markets strategy at Brown Brothers Harriman, about the Chilean options going forward.
Nevertheless, Chile continues to have a very attractive investment climate and it appears to many that the price of copper, of which Chile is the world’s number one exporter, is more likely to influence the peso’s value than anything else going forward. Thanks to the red metal’s near record price and surging demand in a variety of emerging markets, this could put a floor underneath the peso in the near future suggesting that any impact from the Chilean central bank’s policies are likely to be short-lived [also read Chile: The Forgotten South American ETF].
Thanks to these surging copper prices, in the second half of 2010 ECH put up one of the most impressive performances out of any emerging market, gaining 34.8% in the past 26 weeks. Due to the soaring performance of this fund over the longer term and the recent, sudden drop so far in January, we look for ECH to remain in focus during Wednesday’s trading session. Whether investors take this opportunity to buy on the dips or further lock in their gains from last year remains to be seen, but either way it looks to be another rocky and volume-heavy day for one of South America’s most developed and important economies [see Three ETFs To Watch During The Great Currency War].
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Disclosure: No positions at time of writing.