Sterling tanks after week of non-stop BREXIT news...

Week Commencing Monday 29th February 2016

Overriding Market Themes

Last week Sterling fell to a new 7-year low of $1.388 versus the dollar before edging back up above the $1.39 level. GBP/EUR also traded well below last week’s trading range. The pair lost 1.98% last week as the pound hit bottom after Brexit looks to become a possibility. David Cameron called a referendum for June 23rd asking the UK people to vote to stay or leave the Eurozone. As soon as the vote was called major supporters jumped the line to back separation. Leaving the European Union would be a "profound economic shock" for Britain and this week's drop in the value of its sterling currency drives home the real-world consequences of the "In-Out" debate, finance minister George Osborne said on Friday. In a blow to Cameron, his immediate predecessor as Conservative leader and erstwhile mentor, Michael Howard, came out on Friday in favour of Brexit. But the most prominent Conservative figure to throw his weight behind the "Leave" campaign is popular London Mayor Boris Johnson, who is also seen as a likely contender to replace Cameron as Conservative leader and prime minister.

The exit of Britain is going to affect the global economy which is already facing a lot. This can be seen in China’s slowing economy and weak commodity prices. The British government sought the help of its countries biggest companies urging them to vote to stay in the union. The G20 summit will see ministers who represent around 86 per cent of the global economy. The referendum is emerging as a serious event risk for sterling, with opinion polls pointing to a very close result. A vote for Brexit would most likely lead to further downward pressure on sterling. It’s 2009 low of around $1.37-1.38, though, should provide strong support, as cable has not fallen below this level since 1985. Against the euro, the EUR/GBP pair could rise further, up into 80p territory, if opinion polls continue to point to a close vote in the referendum. Sterling should recover if the UK votes to stay in the EU, with the euro falling back towards the 75p level. Sterling can be expected to fall sharply, if there is a vote in favour of Brexit.

US Gross Domestic Product growth and Personal Consumption Expenditure data has had a pronounced effect on the greenback as well as many other leading currencies. The initial version of America’s Q4 growth numbers suggested that the world’s premier economy had expanded by a paltry 0.7% during 2015 and analysts feared the worst for the latest revision to this figure, published a short time ago. The consensus expectation amongst FX insiders was for a downward adjustment to 0.4% for the year-on-year US growth result. The upward revision to 1.0% therefore came as a pronounced surprise for investors, triggering a flurry of activity and considerable price action in the markets. The US Dollar recorded sustained gains against the Pound Sterling in the aftermath of the release, with the GBP USD exchange rate peeling back from an intraday high of 1.4043 to touch the 1.3900 threshold.

In the week ahead though, some attention may turn back to the theme of monetary policy divergence, with some key labour market data due in the US. Given the high degree of uncertainty surrounding the extent of Fed tightening, these data will be closely followed with markets having pushed out their US rate hike expectations significantly in recent weeks (next hike expected in late 2017). Non-farm payrolls are anticipated to show another strong month of gains, though it looks as if the pace of improvement has slowed somewhat compared to Q4’s very strong series of results. The unemployment rate is anticipated to remain at an eight year low of 4.9%. Meanwhile, earnings growth, which rose strongly in January, is expected to record another pick-up.

 

GBP This Week

There is a relatively light calendar in the UK, though the February PMIs will still warrant attention. The indices have generally pointed to a slightly faster pace of growth of late. However, this month’s updates are anticipated to edge lower, mirroring the weaker performance in the Eurozone and US survey data.

Year to date, GBP has fallen by around 5% against the dollar and nearly 7% versus the euro. Looks like Sterling will remain against the ropes this week!

USD This Week

The US calendar also features some important survey data, with the February ISM indices due. The services index is forecast to continue to point to more modest growth in the sector, while the manufacturing index is anticipated to remain in contradictory territory. Elsewhere, the Fed releases its ‘Beige Book’ on Wednesday. This will form the economic backdrop to the upcoming FOMC meeting (15th-16th March).

EUR This Week

In the Eurozone, there will be plenty of attention on HICP and unemployment data given their importance to ECB policy deliberations. HICP inflation is forecast to fall back to 0% from an already very weak 0.3%, not helped by on-going weakness in commodity prices. Meanwhile, a pick-up in the pace of decline in Eurozone unemployment has been a positive development in recent months. It is expected to edge down again in January, to 10.3%, its lowest rate since August 2011. The Eurozone schedule also includes retail sales data for January, as well as final PMIs for February.

 

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