With the headlines from the eurozone going from bad to worse and confidence in the euro nearing rock bottom, the logic would be that the pound in our pockets should be worth more. Caxton FX explains why this is not the case.
Since early March, sterling has moved from below €1.10 to high of €1.1880 hit on May 17th, but has stopped gaining at that point. We have seen the price consolidate its position between €1.16 and €1.17 in the past couple of weeks and, in the short term at least, it looks set to remain in that range.
There are number of reasons accounting for sterling’s comparative weakness, perhaps the most predominant of which is Britain’s exposure to the eurozone.
Duncan Higgins, senior analyst at Caxton FX explains, “The eurozone comprises Britain’s largest trading partner and a deepening of the crisis could quickly sap demand for UK exports. Inevitably then, our interests are similarly aligned as a strong recovery in Europe should have a positive impact on the British economy.”
Concerns about the banking crisis in the eurozone are also weighing on the pound.
“The FTSE’s recent declines have been led by the banking sector, with fears growing about the level of exposure that UK banks have to the troubles in Southern Europe. Although CajaSur is a comparatively small bank, there are risks that Spain would have to step in to salvage more banks as the price of interbank borrowing is beginning to soar,” says Higgins.
Adding to the pounds already heavy load is the government’s proposed action toward the deficit. This has impacted negatively on sterling.
Higgins says, “Although the market is in approval of the government’s budget cutting policies, there are risks that these could undermine the strength of the recovery. Monetary policy will likely be kept loose longer than was initially expected to accommodate these cutbacks, which provides another drag on the currency.”
The pound, particularly in this current climate, is still considered a “risky” asset. With risk aversion as high as it is, it is really only the US dollar and Japanese yen that are is a strong position.
“Whilst the pound continues to be sold in favour of safer currencies, this will weigh sterling’s movement against the euro. With markets remaining as jittery as they are, it is unlikely that we will see sterling break out of its current range against the euro in the short term,” concludes Higgins.
