Weekly Currency report

From Peter-John Theuninck, Currency Analyst at Baydonhillfx

The focus for Sterling last week was firmly on the Bank of England’s monetary policy meeting minutes as well as the government’s budget announcement. UK public finances data released prior to the BoE minutes and budget speech showed public sector borrowing had nearly doubled when compared to the same period last year as slowing tax receipts and an apparent spending splurge meant the UK government would not undershoot the Office of Budget Responsibility’s forecast by very much.

The Bank of England minutes offered an ongoing dovish tone as the members voted unanimously to keep interest unchanged but showed a good deal of disagreement over the UK central bank’s asset purchase program. Two of the MPC members voted for a £25bln increase to the asset purchase program and argued the extra quantitative easing now would help avoid damage to the supply capacity in the UK economy.

The UK Chancellor of the Exchequer George Osborne delivered a fiscally neutral budget, despite the media furore created by the so-called ‘granny tax’, a cut to the 50p personal income tax bracket and increases in personal allowances on tax were outlined along with the government sticking to the deficit-cutting plans outlined in the previous budget. 

UK retail sales data added pressure to the Pound as the week closed, activity in the retail sector was shown to have fallen and with downward revision to the previous releases the market fears that growth for Britain would remain subdued for longer escalated the selloff in Sterling.

The Euro experienced volatile trading as constant changes in market sentiment and weaker economic data releases frequently put the single currency under pressure. Institutional selling of the Euro, technical short-covering on EUR/USD positions and ongoing sovereign debt concerns were all catalysts behind the Euro’s trading ranges. Economic fundamentals were a point of great concern for market participants though, French and German PMI manufacturing data showed activity had contracted for both economies and while their respective service sectors performed slightly better they had also fallen when compared to the previous month. The resultant shift in market sentiment was evident as interest rate differentials widened between Germany and peripheral European bonds.

This Week

Investor sentiment is still a primary theme within currency markets as the risk approach to global economic conditions in Europe and China has created a good deal more volatility. Confidence remains key as market participants’ expectations regarding central bank action and the likelihood of increases in quantitative easing are seen to weigh on currencies.

After the Bank of England minutes last week as well as the UK government spending figures and budget speech the market’s expectations for the British economy is that we are still in for a slow and protracted recovery. The primary focus for the domestic GBP market will be the final release of fourth quarter GDP growth figures from last year. The consensus forecast on growth is for the previous estimates to remain unchanged at -0.2% over the quarter which is unlikely to be Sterling positive as a confirmation of contraction in the UK economy at the end of last year could very likely trigger short-term concerns of a technical recession in Britain. Even though economists are not expecting a second round recession, the ongoing lacklustre economic activity in the United Kingdom will make the Pound a far less attractive investment.

As ever Sterling will not be trending alone as the influences of Euro and Dollar sentiment trading is likely to continue to exert pressure on the Pound. The Dollar’s status as a safe haven currency and the expectations of marginally increased stability in the Euro-zone economies will likely increase the volatility seen in Sterling trade.

The Euro will have two bond auctions to contend with this week as Spain and Italy’s debt funding positions again enter spotlight, bond auctions over the last few months have been well received and if you consider the increase liquidity created by the European Central Bank’s long term refinancing operations, this week’s auctions are anticipated to yield positive results. The risks to the Euro remain broadly unchanged though, fear of worsening debt positions and contagion will likely keep traders skittish and maintain increased volatility in EUR/USD trading. Last week’s contraction of the German and French PMI manufacturing indices have clearly not been forgotten as the Euro was put under pressure due to diminishing prospects of a short-term Euro-zone recovery.

The Dollar has seen some pressure after Fed Chairman Ben Bernanke took a more dovish position on monetary policy. Expectations of a third round of quantitative easing was possible were trigger by the Chairman saying unemployment levels were a concern and very low interest rates were needed to reduce levels of unemployment.

The comments have introduced a turnaround in market expectations for the United States as questions are now being asked as to whether the recent run of positive economic data was a true reflection of actual conditions in the States. The weekly US jobless claims data being released on Thursday will now be more closely scrutinised on the back of Bernanke’s statements and the release of fourth quarter GDP data will also be a strong focal point for analysts.   

Economic Data