USDKRW has risen sharply today,..........>

KOREAN WON: USDKRW has risen sharply today, breaking back above its 50DMA and

100DMA but remains within the tight trading range in place since the start of

the year. Today's won weakness occurred alongside a move lower in rate

expectations, with 2-year swaps edging down 1bps back to 2.0%, sending the

US-Korea 2-year spread back to 47bps, testing multi-year highs. 

- While lower Korean yields are partly justified by lower long-term inflation

expectations (currently at just 0.9% over the next 7-8 years versus 2.1% for the

US) real yields have been moving strongly in the US dollar's favour over the

past year. Even taking into account the decline in Korea's CDS spread, which has

benefitted from the country's ongoing improvement in its external balance sheet,

the tight historical correlation between USDKRW and risk-adjusted real yield

spreads suggests the pair should be roughly 10% above current levels. 

- One trigger for won weakness could be Chinese yuan weakness. The yuan has

moved into a slightly weaker trading range versus the dollar amid easing

monetary conditions and a deteriorating external picture, and given its

importance on regional FX, this could translate to weakness in the won.