No respite for Sterling

By David Morrison  |  28/06/2018 15:32

Sterling continues to sell off as the UK government struggles with Brexit and as the Bank remains reluctant to raise rates

Cable breaks below 1.3100 while EURGBP still rangebound

The GBPUSD currency pair has had a torrid time of late, ever since sterling broke below the upwardly-sloping trendline channel that had been building since the beginning of 2017. The sell-off began as the dollar rallied in a move which saw the Dollar Index brake out above resistance around 90.00. This was just after the People’s Bank of China (PBOC) surprised the markets with a 100-basis point reduction in its Reserve Requirement Ratio. The PBOC has just signalled an additional 50 basis point reduction in July. This easing has helped to drive the yuan lower at a time when China and the US are engaged in a tit-for-tat war of words over trade tariffs – something which is causing some anxiety amongst investors and which is encouraging a move out of vulnerable currencies. This is particularly evident when one looks at the plunging value of emerging market currencies such as the Turkish Lira, Argentine peso, Mexican peso, Brazilian real, Indian rupee and South African rand.

Against this backdrop sterling has also weakened. Not only was the pound looking overbought against the dollar in both February and April, but it must also contend with the widening interest rate differential between the US and UK. The Fed has raised rates seven times since December 2015, including two so far this year, with another two 25-basis point hikes pencilled in for 2018 and more to follow next year. In contrast, the Bank of England has prevaricated repeatedly, ever since last November when it reversed its ill-considered post-referendum cut. This time last week the Bank’s MPC voted to keep rates unchanged at 0.50%, compared with the Fed’s target band of 1.75-2.00%. This was as expected although the vote shifted slightly towards the possibility of a rate hike later this year. Some analysts now expect the Bank to raise rates at its August meeting. But that seems unlikely given the noted reluctance of MPC members (and Governor Carney in particular) to tighten further amid the uncertainty surrounding the UK’s path to leaving the EU.

Who can blame them? The lack of clarity and the feeling that the EU Commission is holding all the best cards when it comes to negotiations is unsettling and another factor keeping investors wary of sterling. It seems a long time ago when PM Theresa May last insisted that “no deal is better than a bad deal” which was the ultimate backstop threat. While a “soft Brexit” is seen by many as the best result for Britain, for others it’s viewed as the worst of all worlds – membership of the single market and customs union with no say in setting the rules.

Unfortunately, we’re unlikely to get much more clarity from the current EU summit where immigration is the most pressing issue for discussion. There are two hours of Brexit talks pencilled in for tomorrow when the 27 members (excluding the UK) will review progress to date. It’s difficult to see how this could be particularly positive for sterling. The UK is expected to update their vision for the future UK-EU relations in a white paper after the June Summit.

Sterling has fallen a long way in a short time against the dollar and by some measures is oversold. However, that’s not to say it can’t fall further. There’s some support just below 1.3100, but a break of 1.3000 can’t be ruled out. In the meantime, bulls will be looking for any signs that the worst is over and look for a sharp snap-back towards the old trendline.  
 
 
 
Any information, analysis, opinion, commentary or research-based material on this page is for information purposes only and is not, in any circumstances, intended to be an offer of, or solicitation for, a transaction in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. Any person acting on it does so entirely at their own risk and GKFX accepts no responsibility for any adverse trading decisions. You should seek independent advice if you do not understand the associated risks.