Influences of Reflation Transaction on Financial Market

Many fund managers and traders have played up the notion of reflation transactions over the past year under the climate of escalating inflation worldwide. However, changes and reversals of reflation transactions in the past have caused them to be partially unprofitable. Therefore, it estimates that part of them are still profitable, but the rest is unprofitable against the backdrop of worsening inflation.

Reflation transaction refers to where traders try to find investment opportunities with the resurgence of inflation caused by economic recovery and an increase in prices. As for commodities, copper as a base metal can get significant benefits because of economic recovery and the commencement of massive infrastructure construction. Owing to the strong demand for copper, it is popular among fund managers relating to reflation transactions under the context of the mass production of electric vehicles worldwide. However, copper prices have dropped to some extent as the market has been cooled down by Chinas policies recently. Nevertheless, they can maintain an uptrend in the long run with the help of inelastic demand and reflation transactions.

Reflation transaction is also conducive to WTI Crude and Brent Crude that surpass other commodities this year. It is believed that the aftermarket of crude oil has been bullish as the Kingdom of Saudi Arabia (KSA) and the United Arab Emirates (UAE) didnt reach an agreement on the increase in production amid the OPEC meeting in July, coupled with the strong demand for oil in summer. As such, WTI Crude and Brent Crude can be prioritized when it comes to reflation transactions.

Generally, gold is a good choice regarding reflation transactions because of its well-known anti-inflation function. Supported by the concept of reflation transaction, gold has embraced an extraordinary performance since the second quarter. However, it has suffered an overall plummet because the Federal Reserve (Fed) suddenly turned to be hawkish in June after its conference on monetary policies, leading DXY to rapid rallies. Consequently, gold prices may not obtain benefits even though the concept of reflation transaction is likely to remain even be hyped up in the future, the situation making the price trend reliant on DXY again.

DXY will be most likely to climb if Powell, the chair of the Fed, continues to send hawkish messages even announces the plan of cutting bonds short, which is unfavorable to gold. In addition, it is inevitable for the Fed to gradually tighten its monetary policies in the second half of the year, according to the current situation of the economy, stock market, and inflation in the U.S. Hence, the possibility of gold prices under pressure is high.

It can be said that CAD has performed the best compared to other non-U.S. currencies in the first half of the year, the performance facilitated by the growth of oil prices and reflation transactions and influenced by the Bank of Canada (BOC) that took the lead in declaring the reduction of bonds. All aforementioned favorable factors can remain in the second half, which can be beneficial to CAD. However, the performance of CAD may be declined as USD is possible to be strong in the latter half. Nevertheless, CAD can be said to boast the best resilience among the myriad of non-U.S. currencies.

Although AUD has seen the notion of reflation transactions, the performance of the currency may be adversely impacted. The reason is that the Reserve Bank of Australia (RBA) is unlikely to tighten its monetary policies in the short run when the adjustment to copper prices may be continuous, and the Australian economic performance is average.

­Reflation transaction is not conducive to bond prices to some extent. The bond market is more likely to be under pressure as most traders are prone to purchasing bonds or assets featuring rapid growth under the context of economic recovery. JPY is the most vulnerable to the plunge of U.S. bond prices and the rise of bond interests. Reasons for JPY under pressure are that the risk aversion can be mitigated by the reflation transaction, which is unfavorable to JPY, and the gap between U.S. bond interests and its Japanese counterparts can be enlarged, which is caused by the increase in the former. As a result, JPY saw the least satisfying performance among major non-U.S. currencies in the first half. It is inevitable for it to be under pressure if the situation regarding reflation transactions doesnt change. USD/JPY is likely to peak at 120.00 at the end of this year.