Sterling claws back as Italy enters period of uncertainty...

Week Commencing Monday 5th December 2016

 

ITALY: Renzi gone and a new era of political turmoil!

Italian Prime Minister Matteo Renzi has announced his resignation, citing full responsibility for the defeat of his package of constitutional reforms in Sunday's referendum.

With 90 percent of the votes counted as of Monday morning, the “No” camp have consolidated a lead of a massive 10 points, making a No vote a certainty. The euro fell to 20 month lows against the Greenback, with markets concerned that instability in the Euro one's third-largest economy could reignite a dormant financial crisis and deal a critical blow to Italy's fragile banking sector.

The main worry of markets however is the fact that Renzi’s resignation could lead to fresh elections, with the right wing Five Star movement poised to make significant gains. The group advocates a departure from the single currency, and by extension the European Union. It is difficult to see how this referendum result will play out ion financial markets, however the bias is certainly shifting to a Euro negative scenario.

We expect the government to act swiftly to quell fears of a fresh election, however should popular support wain we could see elections as early as Q1 next year.

AUSTRIA: Far-right fail to make gains in Presidential Election.

In contrasting news, Austria’s voters have resoundingly rejected the anti-immigration and Eurosceptic Norbert Hofer’s bid to become the European Union’s first far-right president.

Greens backed independent Alexander Van der Bellen swept 53.3 percent of the vote from his rival, offering Hofer his second electoral defeat for the presidency. In keeping with other nationalist parties across Europe, Hofer promised to tackle establishment politics and called for an end to the migration crisis by effectively removing the country from the Schengen area, the European boarderless zone.

The result is providing little restbite to markets however in the wake of Italy’s shock referendum result, however it is certainly a Euro positive event.

UK: Government appeal underway, which way will it go?

11 of the UK’s top constitutional judges will take their seats on the supreme court bench on Monday to decide whether parliament or the government has the authority to trigger Brexit.

The four day court hearing will decide whether the UK parliament requires a vote on the governments negotiating position with respect to its EU exit. Markets generally believe that if parliament is given the opportunity to vote on the terms of a Brexit, the emphasis will shift away from the current “hard” stance to a softer style of Brexit.

Sterling assets are set to rocket it the court finds in favour of the Parliamentary vote, and with risks building in Europe, things look set to get even choppier.

 

FX Forecast

EUR/USD continues to weaken after the Italian referendum result, with a low of 1.0518 signalling a decisive break of resistance. We expect the rate to now stabilise, especially as political risks are now realised for the short term. Expect the pair to trade within its current range, with a downside maximum of 1.0461.

GBP/USD continues to perform versus the Dollar on the back of European woes and the upcoming Supreme Court hearing. With a break of the 1.26 level, we now open up the potential of a 1.30 breach. Assuming a market positive response to the court result (aka Parliament getting the vote), we expect a positive bias moving forward.

GBP/EUR has reacted powerfully to the Italian result with a breach of the 1.20 level on Monday morning. We expect this positive bias to continue as Europe reacts to the news, and assuming the Supreme Court upholds its initial decision surrounding Brexit.

 

Economic Calander for the Week

UK Data:

We have the all-important Services PMI release on Monday, with a marginal decline of 0.5 expected by markets. This leaves the print at 54.0 which remains a relatively decent print, so we expect Sterling to continue to perform robustly. We then move to Wednesday’s Manufacturing Production print, which we expect to show a 0.2 percent increase in general production. As before, markets tend to concentrate on the geo-politics at the moment, so expect all the emphasis to remain on the Supreme Court this week.

US Data:

We have a quiet week for the US ahead, with ISM Non-Manufacturing kicking things off. We expect the print to increase from 54.8 to 55.4, showing continued robustness in the world’s largest economy. We then move to Crude Oil Inventories on Wednesday, which the expectation of a drop in numbers by -0.88 million barrels. All in all, a mute week for the Greenback with most emphasis focused across the pond.

EU Data:

All eyes are on this week’s ECB meeting and Mario Draghi’s comments. We do not expect any monetary policy changes, however his comments on both Brexit and the Italian Referendum will likely be key market movers.

 

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