BoE edges towards QE, Fed edges away, while the eurozone remains firmly in recession

We have to hold our hands up and admit that we were caught well and truly offside with respect yesterday’s MPC minutes. We did not even fully expect David Miles to continue voting for QE but not only did he stand firm, he recruited to additional doves to his cause in the shape of Paul Fisher and (more significantly) Sir Mervyn King. With the merits of an interest rate cut also carefully discussed, it was no surprise to see sterling take a beating as a result. We have to now change our position on the BoE’s monetary policy outlook and expect an additional top-up of QE around May time. Not good news for sterling, which continues to suffer from weak growth and the high probability of a UK debt downgrade.

By contrast, the minutes from the US Federal Reserve’s recent meeting gave a real boost to the US dollar last night. They revealed that Bernanke & Co are assessing when and how to scale back their QE3 operations, which was a major driver of dollar-weakness in the last few months of 2012. There have been hints that substantial improvements to the US unemployment rate would be needed before QE3 was wound down but the minutes revealed there was some support for doing so before such improvements are seen. It goes without saying that there remains majority support for maintaining QE3 as it is until greater progress is made with the US recovery and no change to this looks particularly imminent. However, the discussion and the divergence of views within the Fed could lead to a tapering off of QE3 later on in the year. This is why the dollar has rallied.

From the eurozone, we have had yet more weak growth data. A German economic sentiment survey was excellent earlier on in the week but this morning’s PMI figures pointed to a slowdown in the powerhouse economy this month. The German manufacturing sector remained in growth territory by only the smallest margin. Meanwhile, French figures pointed to a sharp dip further into contraction, against expectations of stabilisation. The same is true for the eurozone as a whole, which is set to contract again this quarter.  This is being reflected in a weaker euro today, though GBP remains very vulnerable. 

Richard Driver
Currency Analyst
Caxton FX

MPC minutes suggest dovish majority in November

This morning’s MPC minutes release and UK employment figures brought some positive news for sterling, even if this didn’t translate in to any real demand for the currency today. The MPC minutes were not as dovish as they could have been, bearing in mind September’s update from the UK services, construction and manufacturing sectors were very disappointing. Meanwhile this morning’s UK unemployment figures beat expectations considerably, providing further optimism for a positive Q3 GDP figure on October 25.

The minutes revealed that there are clearly differing views within the MPC. Whilst no members voted for more QE in October, there are very likely to be members in favour of more QE in November. However, the MPC minutes and various speeches from members like Martin Weale and others such as Broadbent and Dale, reveal that there are plenty who doubt the need and indeed the actual usefulness of more QE.

Based on these minutes, it seems unlikely that the MPC doves will be able to form a majority in favour of QE in November. Martin Weale’s reservations over whether more QE is in line with the Bank’s inflation target could well convince some of the fence-sitters to hold fire on QE, as could the early indications that the Funding for Lending Scheme is stimulating credit conditions. Next week’s UK GDP figure could well have the final say for several voters.

Today’s UK employment figures have positive implications for the upcoming GDP figure. With the jobless rate dropping unexpectedly down to 7.9%, UK unemployment is at its lowest level since June 2011. The government will take a huge amount of comfort in the ongoing uptrend we are seeing in the UK labour market.

Richard Driver,

Currency Analyst

Caxton FX

Caxton FX Weekly Round-Up: GBP, EUR, USD

Standard and Poor's cuts Spanish credit rating but Rajoy still delaying 

Rating agency Standard and Poor’s cut Spain’s credit rating by another two notches last week, which puts the country’s debt only one notch above ‘junk’ status. Moody’s already has Spain at this level but when it publishes its report in a fortnight, the market response could be very negative indeed if it does in fact downgrade Spain to junk territory. Speculation that Standard and Poor's axe wielding would prompt an aid request from Spain intensified last week but the latest reports suggest that not only will Rajoy wait until after regional elections on October 21 but he will wait until November before officially requesting a bailout. More delay then, though at least we have an idea of timescales.

Interestingly though, Spain’s bailout looks set to become part of a larger package containing a bailout for Cyprus and an amended loan package for Greece. This will relieve EU officials of the requirement to repeatedly obtain approval from the eurozone’s national parliaments. In terms of the eurozone’s other key problem child, a Greek deal on a new austerity package is likely to be agreed in time for this week’s EU Summit, which should help to set market nerves at rest with respect to the next tranche of Greek aid.

In terms of eurozone data this week ,we have a key German economic sentiment gauge released on Tuesday, which looks likely to improve slightly, though probably not enough to trigger any rally for the euro.

Big week of UK announcements ahead 

Last week brought a lull in terms of UK news. We learnt UK manufacturing production underperformed in August and that the UK trade deficit widened quite dramatically, but the week ahead brings plenty of key domestic figures. UK inflation is set to take another sharp downturn, which could well embolden the more dovish members of the MPC to vote for more QE next month. The minutes from the last MPC meeting are also released on Wednesday, which may be slightly more downbeat based on September’s weak PMI growth figures. This could potentially hurt the pound if it is enough to convince investors that a few members will be swayed to vote for more QE in November.

UK labour data looks set to be solid again on Wednesday, while we should also see some better growth from the UK retail sector. The market will watch all these figures closely but one eye will be kept on next week’s (October 25) initial Q3 UK GDP estimate. This is the next major event for sterling this month.

We are expecting plenty of range-bound trading this week, with EU leaders set to put off major announcements until next month. Having failed once again ahead of $1.61, GBP/USD looks set to return to the $1.60 level. We are sticking to our guns in terms of our predictions that when this pair does finally make a sustained break away from the $1.60 level, it will be to the downside. The euro continues to look tired as it approaches the $1.30 level and a dip below $1.29 looks possible this week.

Sterling is struggling to sustain any significant gains against the euro. We expect the €1.2350 will provide plenty of support in the sessions to come, so we’d view current levels to strong ones at which to sell the euro. A break higher back up towards €1.26 isn’t out of the question this month.

End of week forecast
GBP / EUR 1.2450
GBP / USD 1.5975
EUR / USD 1.2850
GBP / AUD 1.5800

Richard Driver
Currency Analyst
Caxton FX

Caxton FX Weekly Round-up: Dollar poised for rally

Pressure on for revised UK Q2 GDP figure

Last week’s all-important Quarterly Inflation Report from the Bank of England provided sterling with support just when a return to the €1.25 level was looking probable. King seemed to discard the option of another interest rate cut, describing it as potentially “counterproductive” and the likely effects to be “neither here nor there.” There were no real signals that the BoE is poised to introduce further quantitative easing, which again was supportive of the pound. The MPC minutes released on Wednesday should provide further clarity in this regard; we expect a unanimous decision to hold fire on more QE.

In addition to being less dovish than expected on monetary policy, Mervyn King also stuck to his guns in arguing that UK growth is not as weak as headline data has suggested. King’s comments have increased hopes and expectations that the initial -0.7% GDP figure for Q2 will be revised up. This was supported by last week’s better than expected, although still alarmingly weak in the bigger picture, manufacturing and industrial production figures from June. If an improved GDP figure is not forthcoming on Friday 24th August, then sterling could well be hit hard.

ECB has done nothing so far but hopes remain high

Despite the ECB having failed to take any concrete action at its meeting at the start of this month, the euro remains well away from its late-July lows. This is largely thanks to ECB President Draghi’s indications that the central bank is gearing up to resume the purchasing of Spanish and Italian bonds, in an effort to bring down their unsustainably high borrowing costs.

However, while some short-term relief for the euro would likely follow some concrete action from the ECB, it will be no panacea. Bond-purchases will be tied to very strict conditions with respect to economic reforms. Mario Draghi has suggested that ECB bond-purchases would only occur once a country had requested help, but this request may not come if Germany is too strict with the conditions it attaches. At the very least, German demands may could easily delay progress. In any case, bond-purchases took place last year but we are back in panic mode once again, so we find it hard to believe that ECB action will provide anything more than a short-term lift for the single currency.

Despite the positive sentiment that has built towards the euro over the past few weeks, we continue to hold a distinctly bearish view of the single currency over the rest of 2012. While sterling has plenty of its own domestic issues, chief among which are ongoing weak growth and the threat of the UK losing its AAA credit rating, it should be able to climb higher towards €1.30 this year.

GBP/EUR is currently trading at €1.27 and another push higher may prove tricky in the short-term as GBP/USD is looking ripe for another downward correction. Despite ongoing debate within and outside the US Federal Reserve, the central bank is still resisting the urge to announce or even signal QE3. This case has been strengthened most recently by last month’s better than expected US labour market update. The dollar looks well-positioned for a return to strength this month then, which could bring the GBP/USD rate well down from the current $1.57 level.

End of week forecast

GBP / EUR 1.2750
GBP / USD 1.5550
EUR / USD 1.2250
GBP / AUD 1.5000

Richard Driver

Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

Caxton FX Weekly Outlook: further pain in store for euro

Spanish debt concerns drive GBP/EUR even higher

Spanish 10-year bond yields are up at 7.50% today, which represents yet another fresh euro-era high. One of Spain’s largest regional governments, Valencia, has requested financial help from the central government, and there are plenty of indications that more regions will follow suit. This has triggered widespread fears that the Spanish sovereign itself will need a formal bailout, in addition to the bailout that was signed off for the country’s banks on Friday. In addition, the Bank of Spain has said today that the country’s economy shrunk by 0.4% in Q2, in addition to its 0.3% contraction in Q1.

Greece is also back in the headlines this week; reports have emerged that the IMF may not contribute to the next aid tranche that the country needs by September to avoid insolvency. The IMF, along with the rest of the Troika, will be in Greece this week assessing the country’s spending cuts and reforms. The Troika seems highly likely to give a negative assessment of Greek progress.

On top of these debt–related issues, the week ahead presents plenty of risks for the euro in terms of economic data. Tomorrow’s set of eurozone, German and French PMI growth figures are expected to remain at very weak levels, in fact almost entirely in contraction territory. Wednesday brings a key German business climate survey, which is expected to hit a fresh-two year low. All of this negative eurozone data is likely to increase speculation as to another interest rate cut from the ECB early next month.

MPC minutes do little to hurt the pound

The MPC’s meeting minutes revealed a 7-2 vote in favour of the July quantitative easing decision, which is no great surprise in light of poor UK growth data, weak domestic inflation and rising risks from the eurozone. Sterling has actually weathered the recent domestic quantitative easing storm very well and we are not expecting another dose of QE in the next few months, if at all (provided a rapid deterioration in eurozone conditions can be avoided). An interest rate cut was discussed at the MPC’s last meeting, but we expect this will be the committees’ last resort and we are not expecting this will be utilized this year.

The week ahead brings the preliminary UK GDP figure for the second quarter of the year. Consensus expectations are of a 0.2% contraction and whilst an undershoot of this estimate would likely apply some short-term pressure on sterling, we still take a positive view of sterling moving forward, as we do of all safer-currencies.

The week ahead also brings the advance US GDP figure for the second quarter. A further slowdown is expected, though until the Fed makes some clear signals as to QE3, the dollar should remain on the offensive.

End of week forecast

GBP/EUR posted fresh 3 ½ year highs up towards €1.29 over the weekend and while the pair is trading only marginally above the €1.28 level at present, we expect new highs to be reached soon. €1.30 has come into view quicker than we expected and is now a realistic target in the coming fortnight. Heavy losses in the EUR/USD, which itself it trading at more than a two-year low below $1.21, have taken their toll on GBP/USD. Sterling has given back two cents to the dollar since last Friday, and is currently trading at $1.55. We expect this pair to revisit the $1.54 level in the coming sessions. Soaring peripheral bond yields should ensure global stocks remain under pressure, which is likely to pave the way for further dollar gains.

GBP / EUR 1.2925
GBP / USD 1.54
EUR / USD 1.1920
GBP / AUD 1.5200

Richard Driver
Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

MPC minutes reveal a 7-2 vote to in favour of QE, where does the BoE go from here?

Yesterday’s release of the Bank of England MPC meeting minutes revealed a 7-2 vote to increase add £50bn of quantitative easing to the UK economy, taking the total of the BoE’s asset-purchase facility to £375bn. With the UK having entered a double-dip recession and showing few signs of a return to growth in the near future, the MPC understandably felt the time was right to give the UK economy another helping hand, particularly with external threats from a eurozone downturn increasing almost perpetually.

Expectations were pretty high for a unanimous vote in favour of the MPC’s July QE decision. However, for the first time since 2009, there was dissent when the majority voted in favour of QE. Dale and Broadbent both voted against the proposal on the grounds that there was sufficient stimulus in place. However, this less dovish aspect can be seen to be balanced by the additional discussion of the larger £75bn QE option, as well as a potential interest rate cut.

The decision was based on a fairly grim near-term growth outlook. The UK economy is struggling to emerge from its second recession in four years, and updated growth forecasts released by the International Monetary Fund earlier this week indicated that growth may be as low as 0.2% over 2012. This morning’s UK retail sales growth data for June came in well below expectations at 0.1%, while the PMI surveys from the UK’s manufacturing, services and construction sectors painted an overall very negative picture.

UK price pressures have also eased to a greater extent than expected over the past few months particularly; inflation is now at 31-month low of 2.4%. The minutes revealed that there was the consensus that more QE is necessary in order for the BoE’s inflation target to be met in the medium term.

The increased discussion and possibility of a cut to what is already a record-low interest rate of 0.50%, certainly did not go unnoticed. The minutes revealed that the MPC could review a possible interest rate change once the effects of its Funding for Lending Scheme (FLS) have been assessed. However, the effects of the FLS will not be ascertained for several months, so we can be confident that a BoE rate cut is not imminent.

So what about the MPC’s August meeting? It looks likely to be a classic wait-and-see meeting; waiting for the effects of the FLS and QE decisions to surface. In fact the MPC could remain on the sidelines until November, when the current round of QE has run its course. As ever, this comes with the caveat that negative eurozone developments are more than capable of accelerating the need for additional monetary stimulus.

Richard Driver
Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our free daily report.

Caxton FX Weekly Round-Up: More Euro Weakness Ahead

The euro-bashing continues amid delays to the German court ruling

The euro has hit fresh lows against the dollar and the pound in the past week thanks to further declines in US stocks, widening peripheral bond yields and heightened eurozone concerns.

Germany’s constitutional court has decided to wait until September to give its ruling on whether the changes to the European Stability Mechanism and the fiscal compact are legal according to German law. This sets back the implementation of the progress made at the EU’s last Summit and ensures a high degree of market uncertainty over the rest of the summer. The decision goes against the pleas from the German government for a swift ruling that would help contain the debt crisis.

ECB President Draghi has tried to calm market tensions, asserting last week that the euro as currency was irreversible, but investors failed to take much comfort. The euro has been unjustifiably high over the past two years given its waning economic fundamentals and soaring debt levels; the euro’s sell-off since early May is the correction that we have had to be very patient in waiting for.

Bank of England ‘Funding for Lending’ scheme impresses

Sterling is benefitting from plenty of safe-haven flows at present, which has seen GBP/EUR hit a fresh 3 ½ month high of €1.2768. There have even been some small pockets of optimism in the UK economy of late; industrial and manufacturing production growth improved in May thanks to shifting the Bank Holiday to June. The UK trade deficit even narrowed significantly in May. Last Friday saw the release of details relating to the Bank of England’s new ‘Funding for Lending’ scheme. UK banks will have access to £80bn worth of cheap loans and will be incentivized to pass this on to UK businesses. The markets responded positively to the programme, which starts in August, and sterling performed strongly. Nevertheless, the market will not kid itself into thinking the UK economy is going to gain much momentum in H2 of 2012.

UK inflation has come right down to a 34-month low of 2.4%, driven by weak domestic activity but this also been helped by the stronger pound. Low inflation clearly supports the MPC’s decision earlier this month to introduce further QE. The minutes from that meeting will be released on Wednesday morning and a unanimous vote in favour of QE could possibly be revealed, at least a strong majority. This shouldn’t weigh on sterling too heavily. UK retail sales data for June should again be positive on Thursday, helped by the Queen’s Diamond Jubilee celebrations.

US Federal Reserve Chairman Bernanke speaks again over the next two days and with data revealing on Monday that US retail sales contracted sharply once again in June, hopes are high for indications that QE3 is imminent. Despite ongoing weakness in US figures, we expect yet more of the same from Bernanke, a dovish tone but reluctance to signal QE3 for the time being.

Sterling is trading at €1.2720 today and continues to look poised for another push higher. The euro’s sell-off looks set to drag on further, particularly in light of the German constitutional court’s decision to delay its decision. At $1.56, sterling is performing strongly against the USD but we don’t see this lasting much longer. EUR/USD should weigh on the GBP/USD but we still see the pound holding up better than the euro.

End of week forecast
GBP / EUR 1.2775
GBP / USD 1.5550
EUR / USD 1.2175
GBP / AUD 1.5275

Richard Driver
Analyst – Caxton FX

For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

Spain confirms bailout request and the euro heads lower

The euro’s recovery shows signs of topping out in absence of QE3

The first three weeks of June were excellent ones for the euro but the past three sessions have punishing ones for the single currency. The Fed’s decision last Wednesday night not to pull the trigger on QE3, much to the disappointment of many market players, has seen the dollar strengthen significantly.

We also saw some awful economic data out of the eurozone at the end of last week. Monthly German manufacturing growth hit almost a three year-low, a German business climate survey hit a two-year low and growth data from the eurozone as a whole was distinctly poor as you might expect.

The Spanish Economy Minister has today formally requested a bailout to recapitalize its ailing banking sector, though the details as to the size of this bailout have not yet emerged. Unless funds well in excess of the €100bn bailout (which has been assumed) are offered, then market fears of an insufficient bailout are likely to persist. What we also do not know is whether the bailout will be granted via the Spanish government or whether the sovereign will be bypassed. The likelihood is that Spain will shoulder the loans, which will add to the country’s mounting debt. It is hard for the market to respond positively to this bailout, as it is just a liquidity solution; the fundamental issue of rising debt remains unaddressed. To add to the negative sentiment towards Spain, Moody’s is expected to downgrade Spain’s credit rating once again this week.

EU leaders meet at a summit at the end of this week to tackle issues relating to Greece, Spain, a banking union, Eurobonds and much more. The market has today demonstrated its lack of faith that any groundbreaking progress will emerge from the EU Summit, with the euro declining sharply, Spanish and Italian bond yields rising and global stocks tumbling. Market confidence is very much on the wane, which is all good news for the US dollar.

MPC minutes point to QE call in July

Last week’s MPC minutes provided a surprise in revealing a 5-4 split (against QE) in the vote on whether to introduce more QE in June, after a voting pattern of 8-1 against in May. Posen had made it clear that he had jumped ship from the dovish camp prematurely, so his QE vote was expected. However, the additional voting shifts from BoE Governor Mervyn King and Paul Fisher were a genuine surprise. In light of the surprise decline in UK inflation from 3.0% to 2.8% in May, as well as the overtly dovish language expressed in last week’s minutes, we fully expect the doves to gain a majority in the quest for more QE in July. This should not weigh on the pound though, as a July move is fully priced in.

The week ahead brings familiarly high levels of risk, with Spain and Italy both having to auction off some debt. The EU Summit is the main event and the potential for disappointment is all too clear. Because of this, sterling is trading at €1.2450 – a strong rate, which could well get even better by the end of the week. With BoE monetary easing now fully expected next month, the downside risks posed by UK data releases look rather limited. As ever, EU leaders have the capacity to trigger a major relief rally for the euro, though we remain sceptical.

Sterling has lost ground to the US dollar in recent sessions, hurt by a significant shift down in the EUR/USD pair. GBP/USD is now trading below $1.56 and we expect to see the dollar strengthen further this week.

End of week forecast
GBP / EUR 1.2475
GBP / USD 1.55
EUR / USD 1.2425
GBP / AUD 1.57

Richard Driver
Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

Spanish banks get some help but Greek elections loom

Pressures ease somewhat as Spanish banks receive €100bn bailout

The weekend headlines have revealed that Spain’s banks will be given the support they desperately need through €100bn of emergency EU funding. This is a decent signal of intent from the EU’s leaders; it buys Spain some time and eases concerns surrounding spiraling debt contagion in the eurozone, but it is far from a solution for Spain, never mind the eurozone as a whole. Indeed, the enthusiasm following the weekend’s bailout agreement already appears to have waned.

Growth-wise, eurozone data over the past fortnight has pointed evermore towards a dip back into negative territory in Q2 of 2012. Pressures are still very much being felt in the bond markets, with Spanish 10-year notes yielding almost 6.50% and Italy’s equivalent debt yielding almost 6.00%. Last week’s policy announcement from the ECB was notable in revealing that the central bank is reluctant to cut interest rates from the current 1.00% level. Perhaps more importantly ECB President Draghi is unwilling to step in and buy bonds on the secondary market. The ECB has made it clear that it will not fill the void left by the EU’s dithering leaders.

With Spain’s short-term pressures easing somewhat, the Greek saga comes back into view. This Sunday (June 17th) brings the Greek parliamentary elections, where there remains a significant risk of an anti-bailout coalition emerging. Feasibly, we could see another stalemate and another election called. The situation is incredibly uncertain and looks set to put the market on edge as the event draws closer.

Bank of England decides against QE, for now

Last week saw the Bank of England’s MPC decide against introducing another round of quantitative easing in June. The threat of more QE has been weighing on sterling of late, particularly amid a slew of weak UK growth figures. However, a surprisingly solid UK services figure may well have given some of the MPC policymakers the resolve to hold off on voting for more QE last Thursday. The minutes from the meeting, released next Wednesday, will clearly be very revealing on just how close the MPC’s call on QE was. For now though, sterling looks set to find some favour - it’s safe-haven status should be able to return to the fore as the Greek elections close in.

Elsewhere, US data has continued to point to a slowdown in recent weeks, though Ben Bernanke was unwilling to provide any clues as to the introduction of QE3 any time soon, which is dollar-supportive. He stressed the risks posed by the eurozone debt crisis to the US economy but his rhetoric smacked of a willingness to ‘wait and see.’

Sterling is trading at €1.24, with the euro having totally given back the gains it made on Sunday night as a result of the Spanish bailout progress. Nerves look likely to intensify ahead of the weekend’s Greek elections and as investors contemplate the possibility of a Greek exit from the eurozone once again, we are looking for sterling to climb back up towards €1.25 in the coming sessions.

Likewise we are looking for lower levels for EUR/USD. The euro’s relief rallies are proving more and more flimsy now as the debt crisis goes on. Another look at $1.24 is a distinct possibility, but for now it trades a cent and a half higher. A weaker EUR/USD pair will inevitably weigh on the GBP/USD pair, which currently trades at $1.5530. Whilst we believe sterling should be able to take a decent share of the safe-haven flows this month, we still view anything above $1.55 as a bit lofty.

End of week forecast
GBP / EUR 1.25
GBP / USD 1.5450
EUR / USD 1.2450
GBP / AUD 1.5800

Richard Driver
Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

UK services sector growth solid and BoE holds fire on QE

This morning’s figure from the UK services sector was solid, coming in at 53.3, the same as in May but well above expectations. The figure is nothing to get too excited about but it is certainly a relief to see that the UK services sector remains firmly in expansion territory, even if the UK economy as a whole is contracting slightly.

One point to consider here is that these PMI surveys have lost a little bit of credibility given the positive surveys that characterised Q1, only for a -0.3% GDP figure to be announced. Nonetheless, the PMI surveys will remain significant as long as the MPC places such emphasis upon them.

Warmer weather and expectations for increased activity relating to the Jubilee and the Olympics helped stave off a services sector decline in May but weakness in the UK manufacturing sector remains the major concern with respect to the UK economy at present. Last week’s manufacturing PMI figure was very poor indeed.

The Bank of England’s monetary policy decision for June was announced at noon today, revealing a ‘no’ vote on further quantitative easing, for now. This morning’s UK services figure will have eased some of the pressure being felt by some of the MPC members to vote in favour of QE. Today’s monetary policy decision is likely to have been a closer call than in previous meetings. Judging by sterling’s rally in the aftermath of the decision, many market players had been suspicious of a June QE call over the past week or so. Nonetheless, we were not expecting them to pull the trigger again today.


The sounds out of the MPC just haven’t been dovish enough to indicate another round of easing was imminent, though the weak UK data over recent weeks arguably would have justified it. The MPC is probably holding more QE back as a fire extinguisher if the worst case scenario emerges from the eurozone debt crisis. The majority of the MPC seems content that the last round of QE is still feeding through and providing stimulus, they look happy to wait and see for now. In terms of inflation, the balances of risks on the medium term outlook remain equal, thus making any fine-tuning less attractive.

As ever, the minutes in a fortnight will be all-important – David Miles will clearly have voted for more QE and Posen is likely to have joined him, all eyes will be on the rest of the voters.

Richard Driver
Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

Sterling/Euro June Report

Sterling has continued to rally against the euro in recent weeks, as conditions in the eurozone go from bad to worse. Uncertainty, as ever, is the buzz word. The pro-bailout New Democracy Party has edged ahead in the Greek opinion polls in the past week or so, which has lifted market hopes that the country can receive the additional funding it needs and remain ‘safely’ within the eurozone.  But there is plenty more debate to be had in Greece and few will be truly confident of a positive result ahead of the fresh elections on June 17^th.

The chances of a messy ending to the Greek saga remain very high. Even if a pro-austerity, pro-bailout coalition does emerge out of this month’s elections, they will still have to find a way to deliver the major reforms and deficit reduction that the country’s €130bn bailout agreement requires. The EU Commission reminded Greece earlier this week that its bailout payments remain highly contingent but whoever wins this month’s elections, you can expect some desperate efforts to have the bailout terms relaxed to a significant degree.

Greek concerns, though likely to return to the fore as the elections draw closer, have been put on the back burner for the time-being. True to form, another struggling eurozone nation has stepped up to fill the void – Spain, or more specifically, Spain’s banking sector.  Bankia, Spain’s fourth-largest bank, requires €19bn worth of recapitalisation and it is becoming more and more apparent that Spain will need help to shore up its banking sector. The issue is having a significant impact on Spain’s government borrowing costs, with 10-year bond yields climbing dangerously towards the unsustainable 7.0% level. As ever with this debt crisis, market fears build so much they become a self-fulfilling prophecy. In short, Spain is in very serious trouble and may have to seek external help, which is no small issue given it is the eurozone’s fourth-largest economy and will inevitably turn the market’s gaze towards the third-largest – Italy.

The UK economy is looking particularly downbeat at present, having been hit with the confirmation that it is firmly in double-dip recession territory. Unsurprisingly, consumer confidence has taken a sharp downturn. April’s growth data from the services and manufacturing sectors was poor and a gauge of UK retail sales showed the worst figure in almost four years. The last update from the UK labour market was a little more encouraging but we will need to see more than one good month before hoping for sustained improvements.

Amid all of this bad domestic economic news, as well as the grave threats posed by the eurozone debt crisis, it might be assumed that more quantitative easing is bound to be introduced by the Bank of England in order to drag the UK out of recession. Certainly the IMF has made its views known on the issue, encouraging the BoE to act soon to safeguard the UK economy.

However, the noises out of the MPC have not suggested that such a move is imminent, despite the recent sharp decline UK inflation from 3.5% to 3.0%. A key reason for this is that the BoE sees UK inflation in the medium term as equally likely to exceed its 2.0% target as undershoot it.  In addition, Spencer Dale has recently stressed the argument that the recent quantitative easing doses are still feeding through to provide stimulus and that a further round is not appropriate at present. This position is supported by the recent improvement in UK money growth.

With only one MPC policymaker voting in favour of QE at the MPC’s May meeting, in the form of David Miles, there is plenty of dovish recruitment to be done in the coming months if the BoE is to pull the trigger again on further monetary easing. Sterling seems safe in this regard for June at least, though eurozone risks could feasibly escalate sufficiently to prompt BoE action in July or August.  

So, despite the UK economy sitting uncomfortably in a double-dip recession and facing a prolonged period of period of stagnant growth and ultra-low interest rates, sterling looks free to continue taking advantage of an increasingly euro-negative environment. Sterling/Euro climbed a further two cents in May, leaving this pair with gains over 4.0% in the past two months. We envisage further gains for the relative safe-haven pound in June, with the Greek elections and rising Spanish bond yields providing plenty of motivation to exit the euro.

Richard Driver
Analyst – Caxton FX

For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

MPC minutes reveal no extra doves but QE risks remain prominent

Wednesday’s MPC minutes revealed that David Miles remained the one and only policymaker in favour of an additional round of quantitative easing (£25bn) at the rate-setting committee’s May meeting. We have to admit that we expected one or two other policymakers to give Miles some company in the dovish camp, but we maintain that he won’t be the lone dove for long.

This much has been indicated by Adam Posen, who has been expressing second thoughts with regard to his decision to abandon his calls for QE, pointing to a potential overestimation of UK growth over Q1. We’d be surprised if Posen fall back to his dovish tendencies in June. Though it may take more than Posen to worry holders of sterling, given that a 7-2 split on the QE vote still keeps the dovish very much in the minority.

One major point that could dissuade several policymakers to vote for QE is the fact that they believe UK inflation is equally likely to be above target as below it in the medium term without more monetary stimulus. In addition, current CPI levels, regardless of the recent fall from 3.5% to 3.0%, are high.

Nonetheless, it was stressed that for several members of the committee, the decision was finely balanced and the option remains well and truly on the table. The latest figure from the UK retail sector, combined with the softer start we saw to Q2 in the form of some weak UK PMI surveys, will increase speculation that the UK’s struggling economy is in need of some extra monetary help.

The key factor that could well have the final say on the BoE QE debate is of course the eurozone debt crisis. The situation in Greece has taken a severe turn for the worse since the failure of the ruling coalition to secure sufficient support at its recent general election. A new round of elections is due on June 17th, which could well produce an anti-bailout collation and lead to a Greek euro-exit. Meanwhile, fault lines within the EU leadership have been highlighted this week in Germany’s rejection of French and Italian plans to introduce a common eurozone bond (a Eurobond).

As shown by the euro’s recent slide, confidence in the euro project is waning. We expect the euro-region to return to negative growth this year and the financial shockwaves from a probable Greek exit are expected to be worse than those of Lehman’s. Consequently, we bet we haven’t seen the last of UK quantitative easing in 2012.

Richard Driver
Analyst – Caxton FX

For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.

Euro rebounds a little, but not for long

Sterling’s rally finally comes to a halt

Whilst sterling remains strong against the commodity currencies, it has suffered somewhat against the euro and the US dollar in recent sessions. The Bank of England’s Quarterly Inflation Report proved the catalyst for a significant bout of profit-taking on the pound’s rally. The Report saw the BoE downgrade its longer-term inflation and growth forecasts, sounding particularly dovish whilst doing so. Concerns over whether the BoE will introduce further quantitative easing have increased as a result, which has weighed on the pound significantly.

The week ahead brings with it plenty of risks for sterling. Wednesday’s minutes will once again bring BoE monetary policy back into focus – all eyes will be on how the MPC voted on QE in its May meeting. David Miles is likely to have stuck to his pro-QE stance and one or two others may well have been convinced by his arguments, which would be sterling-negative. Comments from the once reliably dovish Adam Posen have also added to QE bets. Posen publically questioned the wisdom of his decision not to vote for QE at the MPC’s May meeting, suggesting he can be counted on to do so again in coming months. Inflation data this morning has seen the headline rate come down pretty sharply from 3.5% to 3.0%, once again bolstering arguments in favour of monetary easing.

Also on Wednesday we have the release of April’s growth data from the UK’s retail sector. Having seen the wettest April since records began, the figure is expected to show a fairly sizeable contraction, particularly after the excellent growth seen in March. Thursday brings the revised UK GDP figure for the first quarter of this year. No amendment from the initial estimate of -0.2%, so the figure is unlikely to be a source of great support for the pound.

On the face of it then, it looks to be a tough week ahead for the pound. In addition to these domestic announcements, risk appetite away from safer currencies such as sterling looks to be staging a minor recovery. With the potentially disastrous effects of a Greek euro-exit now sunk in, if not fully priced in, we may well have seen the worst of investor panic. That is of course until the Greek elections come into view in the build up to the June 17th Greek elections. Sterling’s safe-haven demand looks set to come back to the fore ahead of this huge risk event.

G8 pledge support for Greece to remain within euro

The leaders of the world’s eight largest industrialised nations backed Greece to remain within the single currency over the weekend. With Germany sticking to its demands for austerity though (and who can really blame them?), it’s tough to see how the situation can lead to anything but a Greek default and euro-exit.

The profit-taking on sterling’s rally has taken the GBP/EUR rate down to its current level of €1.2350. It is difficult to see sterling losing too much more ground to the euro given the uncertainty that is lurking in June but with sterling facing several risky announcements this week, we may see today’s sideways trading theme dominate direction this week.

Against the dollar, sterling continues to feel the heat and is now trading down at $1.58. We expect to see the USD maintain its current demand, though its recent rate of appreciation is clearly unsustainable. EUR/USD has staged a minor recovery, having touched a 4-month low around $1.2650. We are going to need to see further climb from the current level of $1.2770 towards $1.30 if we are to revise calls for much lower levels in coming weeks.

End of week forecast
GBP / EUR 1.24
GBP / USD 1.57
EUR / USD 1.27
GBP / AUD 1.60

Richard Driver
Caxton FX

Greek coalition talks collapse and prospect of new elections hurts euro

Sterling remains flavor of the month
Sterling has climbed by a further three cents against the euro in the past fortnight. Sterling’s progress against commodity currencies such as the AUD, NZD, CAD and ZAR has been ever more impressive in the past few months. Sterling has climbed by over 10% against the ZAR and NZD since mid-Feb, while it has advanced against the ZAR by the same margin since mid-March.

Sterling’s safe-haven status is behind its demand and this is not something we see disappearing any time soon. Also helping the pound was last week’s MPC vote against further quantitative easing. Whilst there will be some nerves surrounding the voting pattern (to be revealed by the MPC minutes next week), stubbornly high inflation seems to be of greater concern to the policymakers (thus making more QE harder to justify). Tomorrow’s Quarterly Inflation Report from the Bank of England will be highly relevant in this regard. A firmer inflation outlook is likely to be provided, which again should be broadly supportive of the pound.

Euro suffers from lack of Greek coalition agreement

Global investor confidence and risk appetite has taken a turn for the worse in the past fortnight, driven by concerns over Greece. Since the failure of the ruling Greek coalition to maintain sufficient votes at its recent election, major doubts have arisen as to whether Greece will remain within the euro. Coalition talks have collapsed and another election will be held in mid-June, which means the current uncertainty will be extended. As a result, Spanish and Italian bond yields are on the rise, with the former’s 10-year debt yields looking particularly alarming at fresh 2012 highs over 6.25%.

Should an anti-austerity coalition government surface from the current mess, then Greek bailout funds would be withheld, leading to default and a probable Greek breakaway. The knock-on effects in the eurozone and the global financial system as a whole are expected to be more drastic than those of Lehman’s collapse. It is no surprise then, that the euro has suffered a significant decline, with perceived safer-currencies such as sterling and the US dollar filling the void.

GDP data out of the eurozone was very mixed indeed this morning. Italy broadly stuck to the script by contracting by 0.8% in Q1 of this year, while French growth remained stagnant. However, the German economy grew by 0.5% in Q1, which helped the eurozone economy as a whole avoid a technical recession by posting a 0.0% GDP figure. This development has given the euro a mild boost today but with so much austerity still to be delivered in the eurozone and today’s forward-looking economic sentiment surveys showing a fairly sharp decline, eurozone growth is highly likely to return to negative territory this year.

Sterling is trading at €1.25 today, which represents near enough a three and a half year high. We are not calling a top to this pair’s ascent just yet either, with nerves surrounding Greece likely to deteriorate over the coming weeks. In risk averse conditions, the pound has understandably traded a little softer against the US dollar, coming off its highs of $1.63 to trade two and a half cents lower today. This pair could well test the $1.60 level fairly soon, though we are not anticipating any major collapse.

End of week forecast

GBP / EUR 1.26

GBP / USD 1.5950

EUR / USD 1.27

GBP / AUD 1.61

Monthly Report: GBP/EUR and GBP/USD

Sterling has performed excellently in the past month, hitting fresh multi-month highs almost across the board. Some notably less dovish Monetary Policy Committee (MPC) minutes provided the trigger for a sterling rally in April, with the market subsequently betting against the likelihood of further Bank of England (BoE) quantitative easing (QE) - a key factor which has weighed on the pound over the past seven months.

The Office of National Statistics (ONS) last week announced the disappointing news that the UK economy contracted by 0.2% in the first three months of 2012. Taken with Q4 2011’s 0.1% contraction, this latest GDP figure signalled the UK having entered a technical recession. Nonetheless, sterling continues to enjoy strong demand as circumstances worsen on the continent.

The US dollar is still struggling to capitalise on its economy’s comparative strength. US growth data has fallen off its impressive uptrend somewhat, as shown by April’s softer unemployment figures and the recent undershoot in the first quarter US GDP figure.

This has played into the hands of the more cautious members of the US Federal Reserve, including Chairman Ben Bernanke, who refuse to rule out the possibility of another round of US quantitative easing. The market is becoming increasingly obsessed with the Fed’s monetary policy outlook and ongoing QE3 speculation continues to hurt the dollar’s performance.

The eurozone’s debt and growth situation is looking no better and worryingly, perhaps as a result of this lack of progress, the eurozone has become embroiled in fresh political uncertainty. French President Nicholas Sarkozy, could well suffer electoral defeat on the 6 May, whilst Greece will be holding parliamentary elections on the same date. Both elections could have significant ramifications on the direction of eurozone debt crisis in the short and long-term.

GBP/EUR

April saw sterling finally break away from the €1.21 level that had proven so sticky in the year to date. News out of the eurozone has been distinctly negative of late but unusually, the latest direction in this pair wasn’t predominantly euro-driven, but the result of much-improved sentiment towards the pound.

Economically, the situation in the UK remains extremely shaky. While April’s growth figures from the manufacturing, construction and services sectors were all encouraging and retail sales growth was staggeringly strong, the UK GDP figure for Q1 revealed a disappointing 0.2% contraction.

The market appears to be more than a little sceptical with regard to the ONS’s findings and will be looking for an upward revision to the GDP figure on 24 May. Regardless, the headlines surrounding a ‘double-dip recession’ are likely to weigh on consumer and business confidence alike.

UK suffers the double-dip

Whether or not the UK is indeed in a technical recession, UK growth will remain extremely weak in 2012. Disappointingly, Moody’s has recently placed doubt over the likelihood of any economic boost to the UK as a result of the London Olympics in the summer. The eurozone crisis continues to pose the greatest risk to the UK economy. As shown by the latest UK manufacturing figures, export orders are slowing and the eurozone’s economic contraction will undoubtedly drag on domestic activity.

The good news for sterling, however, is that its appeal is not based on economic growth potential. Sterling still represents a convenient alternative to investors looking to exit the euro but stay within Europe. Sterling is also a currency over which there is no threat of intervention looming (unlike the Japanese yen and the Swiss franc).

Despite the recent double-dip headlines, the UK government has reiterated its commitment to the austerity path, in order to maintain the faith of both the credit rating agencies and investors, thus keeping borrowing costs low. As a result, sterling’s ‘second tier’ safe-haven status has really come to the fore in the past few weeks and will provide plenty of support as the debt crisis rolls on.

MPC steps away from QE

Most importantly, sterling is now a currency over which there is perceived to be a reduced threat of quantitative easing, which contrasts particularly with the US dollar. The minutes from the MPC’s April meeting revealed that Adam Posen did not vote for additional QE, which took the market very much by surprise and left only David Miles as the solitary voter for additional monetary easing.

After a slight increase in UK inflation up to 3.5% in March, the MPC increased its medium-term inflation projections. The MPC’s apparent preoccupation with UK price pressures, over and above the state of UK growth, has seen bets on the likelihood of further QE from the BoE scaled back. With the MPC likely to remain in wait and see mode’ at its May meeting on 10 May, the pound has gone from strength to strength. Beyond this month though, there remain significant risks that the more pro-QE arguments will resurface to haunt the pound.

Downside risks to the euro

With regard to the single currency, events in the eurozone over recent weeks have certainly weighed on confidence, though not as much as one might expect. Growth data from Germany, France and the eurozone as a whole disappointed in April and another quarterly contraction is likely to be announced on 15 May. This will put the eurozone in the same boat as the UK - in technical recession. However, there’s no doubt the eurozone faces greater downside risks to growth than the UK moving forward and its recession is almost certain to continue through Q2.

Last month’s Spring IMF meeting failed to convince the markets that EU leaders have a proper handle on the EU’s ongoing crisis. The region’s ‘financial firewall’ has been bolstered by a further $430bn, which is a significant development. However, rating agency S&P has recently seen fit to downgrade eleven Spanish banks, which has seen Spanish and Italian 10-year bond yields make their way back up towards the dangerous 6.00% mark -a good bellwether of rising market tensions.

These rising tensions can largely be put down to fresh political concerns. 6 May brings the second and final round of the French presidential election. Nicholas Sarkozy is facing a likely defeat by Socialist candidate Francois Hollande, which places huge uncertainty over the EU’s Franco-German leadership, the EU’s fiscal compact and its ‘austerity first’ position.

Meanwhile in Greece, parliamentary elections threaten to prevent the country’s two leading pro-bailout parties from securing a majority, which again casts uncertainty over Greece’s bailout situation. In addition, the Dutch government’s collapse as a result of disagreements over austerity measures is telling of a growing political discontent across the region. There is a significant risk that the austerity backlash could spread to the UK local elections this week but the government is nonetheless unlikely to be derailed on its commitment to deficit-reduction.

GBP/EUR has climbed by over 2.50% in the past month, hitting fresh multi-month highs up to this week’s peak above €1.23 (the highest since July 2010). We are looking for further gains in the rate as conditions in the eurozone continue to deteriorate, with the €1.25 (80p) level representing the first key target.

GBP/USD

The US dollar remained soft in April, hemmed in by weaker US economic data and ongoing dovish rhetoric from US Federal Reserve Chairman Ben Bernanke. The monthly US jobs figure for March revealed that half as many jobs were added to the payrolls compared to February and US GDP data for the first quarter of 2012 came in at a disappointing 2.2% (annualised), against expectations of a 2.6% reading. Clearly the US economy is recovering at a far stronger pace than what we are seeing in the UK but it is the implications that this slower pace of growth (the US economy grew at a pace of 3.0% in Q4 2011) has with regard to the US Federal Reserve monetary policy.

The Fed was slightly brighter in its analysis of the US economy last month but is highly likely to remain in ‘wait and see mode’ for the foreseeable future. Bernanke has repeatedly put the brakes on any over-optimistic projections of US growth and has reminded the market that if the pace of US growth softens further from its current moderate pace and progress on the labour market issue stagnates, then QE3 is still very much on the table. Every time Bernanke emphasises the possibilities of QE3, the dollar sells off as risk appetite is boosted and investors chase higher yielding assets, such as the Australian dollar or stocks and shares.

The US dollar has found some favour in the past couple of sessions, helped by a stronger US manufacturing figure. However, a slide in the EUR/USD pair as a result of poor growth figures from the eurozone (Italy in particular) has proven more influential.

It has been difficult calling a top to the GBP/USD’s recent rally in the year to date. It must be said that with the recent poor UK growth figures in mind, doubts are likely to creep in with regard to the likelihood that the MPC will resist further QE this year. This may make this pair’s 8-month high of $1.63 a tough level to breach. We continue to anticipate that EUR/USD will fall through the $1.30 threshold this quarter and whilst sterling should hold up better against the dollar by comparison, a significant decline remains likely. Therefore, we are anticipating GBP/USD to ease back towards the $1.60 level, from the current rate below $1.62.

Richard Driver
Currency Analyst
Caxton FX

Caxton FX Weekly Round-up: Sterling Rallies

IMF boost emergency fund by $430bn but EUR remains pressurized

The weekend’s IMF and G20 meetings produced some real progress in the form of a combined $430bn of additional loans, to be used in the event of a deterioration of the eurozone debt crisis. Good news then, but Spanish 10-year bond yields are trading around the dangerous 6.00% level, and Italy’s equivalent debt is yielding 5.75% today, so it clear that the market remains characteristically skeptical.

The French presidential elections have increased the pressure being felt by the euro in recent sessions. Socialist candidate Francois Hollande received the most votes in the weekend’s initial round of voting and the euro, as well as European equities, has declined as a result. The final election will be held on May 6th and this political uncertainty is likely to weigh on the single currency in the meantime. The markets would probably prefer Sarkozy to remain in power, thus reducing the risk of a breakdown in cooperation between France and Germany on dealing with the debt crisis. Fresh concerns have also sprung up with respect to the Netherlands, which is likely to hold elections in light of the government’s collapse after failing to agree measures to slash its budget deficit.

As well as the weekend’s political concerns, the markets have had to digest some further disappointing eurozone economic data. A German manufacturing growth figure hit almost a three year low and figures out of the eurozone as a whole were equally alarming.

MPC's Posen gives sterling a boost

Sterling enjoyed a staggeringly strong week last week and has started the current one where it left off. MPC policymaker Adam Posen provided the main catalyst for the rally, with the minutes from the MPC’s April meeting revealing that he did not vote for further quantitative easing. The market may have got ahead of itself in pricing out the likelihood of further BoE quantitative easing. Posen may well have voted for no change due to the recent uptick in inflation and may have just preferred to see the current round of QE run its course (which it will have done by time of the MPC’s next meeting in early May). More monetary easing from the BoE is still a distinct possibility if UK inflation eases in the second half of the year and economic growth remains stagnant.

UK Q1 GDP figure to show some growth, albeit scant

Wednesday brings the release of the first quarter UK GDP figure. After last week’s excellent UK retail sales figure, we are fairly confident that we will not see another quarterly contraction. Estimates are falling around the 0.1% growth level, which is indicative of the uncertain footing from which the UK economy is building. Nonetheless, news that the UK has avoided a technical recession will be welcome (though the risks of disappointment are not insignificant).

Sterling is trading at almost a six-month high of $1.6150 at present and we continue to view these to be excellent levels at which to sell the pound. The Fed is likely to be more hawkish in its communiqué this week, whilst the US GDP figure is also likely to be impressive, which could well help the US dollar bounce back. Sterling is trading at almost a two-year high against the euro above €1.2250 and further gains are looking likely, though we may see upward progress stall as nerves kick in ahead of Wednesday’s GDP figure.

End of week forecast
GBP / EUR 1.23

GBP / USD 1.6050
EUR / USD 1.3050
GBP / AUD 1.5750

Richard Driver

Currency Analyst

Caxton FX

Less Dovish MPC Minutes Give Sterling a Major Boost

The recent release of the MPC minutes has given the pound an excellent boost. Adam Posen, the policymaker who has so often stood alone as the Bank of England’s arch dove, has seemingly abandoned his quest for further quantitative easing. Two votes became one in the MPC’s April meeting then, with only David Miles seeing fit to vote for a further £25bn in asset-purchases, though he stressed the decision was “finely balanced.”

The last quarterly inflation report assumed a fairly steady downtrend in UK inflation but the MPC is now noting higher medium-term inflation risks, which reduces the attractiveness of further QE. Higher inflation requires tighter monetary policy. For David Miles, the threat of a third consecutive decline in UK growth and another technical recession looms too large and he voted for extra £25bn of QE accordingly. Clearly, next week’s Q1 UK GDP figure will be crucial and the risks of another negative reading are not insignificant. However, April’s PMI surveys from the UK’s manufacturing, construction and services sectors were very encouraging and the recent UK labour statistics also provide room for optimism. The recent UK retail sales figure, which revealed stunning 1.8% growth in March, should ensure a positive GDP number on April 25th.

The BoE does appear to be moving away further monetary easing at present but the UK economy remains distinctly fragile. Many market players will be assuming further QE is now off the table but if inflation eases towards the end of the year and growth remains weak, dovish arguments will once again come to the fore. What’s more, the eurozone debt crisis could force the BoE’s hand if the situation in Spain and Italy deteriorates rapidly.

There is also the issue of Adam Posen’s thinking – whether he has really given up on more asset-purchases. Posen has indicated that he merely saw fit to let the current round of QE run its course. Posen will be able to reassess the need for a top-up in May, by which time the BoE’s inflation projections will have been formally updated and we will know whether the British economy has suffered the dreaded ‘double-dip.’ Only time will tell on this issue, but it’s fair to say the market may have jumped the gun in respect to Posen’s ‘change of stance.’ Our bet is that we will see Posen vote for more QE before the end of 2012.

Regardless, the majority of the MPC appear far too concerned with upside risks to inflation, and perhaps with preserving the BoE’s credibility on the issue of maintaining price stability, to step up QE at its next meeting in May or any time soon.

Whilst sterling’s safe-haven status has enabled it to weather the constant threat of QE hanging over it, it has undoubtedly weighed on demand in recent months. Sterling has now been freed up to rally in the aftermath of the minutes, climbing to a 20-month high against the euro and a six month high against the US dollar. Even higher levels will be seen against an increasingly weak single currency, though we maintain a negative outlook for the pound against the US dollar.

Richard Driver

Currency Anlayst

Caxton FX

Rising Spanish bond yields highlight market nerves

UK services sector growth suggests no UK double-dip recession

In addition to last week’s strong March growth figures from the UK manufacturing and construction sectors, the services sector joined the party by coming in well above forecasts as well. This probably means that the UK has avoided a entering a technical recession (two consecutive quarters of negative growth), albeit by what is likely to be just the narrowest of margins. Indeed contrary to the OECD’s forecasts, this is what the NIESR have argued in the past week (0.1% growth in Q1).

A second gauge of the UK manufacturing sector was more disappointing last week and has taken the edge off some of the positive sentiment surrounding the UK economy. It certainly is true that this sector has underperformed badly in the past six months and needs to pick up if the UK’s fledging recovery is to pick up any pace. The services sector cannot be the sole source of growth. In terms of important growth figures coming up this month, the 24th April preliminary Q1 GDP figure is the real focus, though next week brings the release of the MPC meeting minutes, as well as the monthly updates from the UK labor market and the retail sector.

US Non-farm payrolls disappoint but no need to panic

Last Friday’s key monthly update from the US labour market revealed that half as many jobs (120k) were added in March, compared to February’s showing. This gives credence to Ben Bernanke’s refusal celebrate the US recovery from the financial crisis. The coming week is noticeably quieter on the data front, with Friday afternoon’s US consumer sentiment figure (forecast to improve) likely to be a highlight.

The dollar struggled a little on the back of Friday’s US jobs figure but it has since recovered. This data will encourage greater caution in the market but it alone won’t trigger large scale revisions of US dollar bets. Global stocks and commodity prices are in decline at present, which is keeping the safe-haven dollar in pretty robust demand, though it is having to wait for significant gains against the pound.

Spanish bond yields on the rise

Nerves surrounding the Spanish and overall eurozone debt situation are clearly on the rise, as shown by the general risk-off tone to present trading conditions. Spain’s Economy Minister today refused to rule out the need for a Spanish financial rescue. PM Rajoy has announced a further €10bn of budget cuts but as Spanish 10-year bond yields climb towards 6.0%, it is evident that market nerves are on the up.

If concerns continue to heat up, the ECB may be persuaded to cut interest rates again to restore sentiment, which is unlikely to be euro-positive. At the very least, an exit from the ECB’s current liquidity measures (monetary easing) is unlikely to come soon; Draghi indicated as much last week. The euro looks poised for a move lower.

Sterling was the third best performing currency against the US dollar in the first quarter of 2012 and it continues to hold up pretty well. GBP/USD’s current levels of $1.5850 remain a good level at which to buy US dollars. Against the euro, sterling is also performing very well. GBP/EUR is trading not too far away from a 19-month high, though it could suffer a short-term downward correction if it fails to push higher from here.

End of week forecast

GBP / EUR 1.2050
GBP / USD 1.5750
EUR / USD 1.3025
GBP / AUD 1.5550

Richard Driver
Currency Analyst

Caxton FX

Caxton FX Weekly Round-up: MPC minutes and UK budget in focus

Dollar struggling to sustain the gains that data would indicate

The US dollar has recently posted ten and eighteen-day low against both the euro and the pound respectively. This belies the excellent growth data that has been surfacing from the US throughout March.

The highlights from last week included some strong US retail sales numbers, a positive US bank stress test result and some further impressive US manufacturing growth figures. The dollar sold-off on Friday however, largely a as a result of the softer-than-expected US inflation figure, which caused some players to revise their bets on the likelihood of ‘QE3’ from the US Federal Reserve.

Fed Chairman has indicated that QE3 is unlikely to be adopted and we maintain this view, which should aid the dollar this year. As the Fed’s Dudley reminded us yesterday, this is all contingent on the maintenance of the uptrend we are seeing in the US economy. Despite Friday’s poor US consumer confidence figure, there is little need to revise our bullish expectations for US GDP in 2012.

MPC minutes and UK annual budget comes into view

Bouncing back from last week’s poor UK unemployment figures and Fitch’s downgrade to the UK’s rating outlook, the pound has made an excellent start to the week. Taken against a basket of 13 major currencies, GBP is trading at its strongest level in over a year. However, the release of the minutes from the Monetary Policy Committee’s March meeting represents a risk event for the pound.

The impact of the minutes on the pound will be dictated by the tone struck with regard to the UK economy and the voting pattern with regard to increasing the Bank of England’s ongoing quantitative easing programme. Today’s UK inflation data revealed a further decline in price pressures to 3.4% (y/y), which highlights the scope for further QE should the MPC feel it necessary. King has indicated that enough QE has been done but the uncertain outlook for the UK economy will certainly keep UK data (such as Thursday’s UK retail sales figure) in focus in the coming months. Nonetheless, the slight uptrend in UK growth should improve the chances of a less dovish, sterling-positive MPC minutes release.

The UK Annual Budget announcement from Chancellor George Osborne will also be eyed closely on Wednesday lunchtime. In light of Fitch’s warning that the UK could lose its coveted AAA credit rating, Osborne is likely to ‘stick to his guns’ with regard to his austerity programme.

GBP may benefit from some support if Osborne can convince the markets that he can fuel UK growth amid ongoing belt-tightening. While significant domestically, there may well have to be some major headlines out of Osborne’s budget in order to cause much of a stir in the currency markets.

Sterling made another attempt at the $1.60 level on Monday but once again fell short, which could signal another move lower for GBP/USD, which currently trades just below $1.59. Against the euro, sterling is trading firmly around €1.20, though once again progress is stalling at these levels close to multi-month highs. With eurozone growth data likely to be weak on Thursday, we continue to look for stronger GBP/EUR levels and lower GBP/USD levels.

End of week forecast
GBP / EUR 1.2075

GBP / USD 1.5675
EUR / USD 1.31
GBP / AUD 1.5250

Richard Driver
Currency Analyst
Caxton FX

Asian sovereigns propping up the euro, but not for too much longer

Asian sovereigns continue to drive the euro forward

The support that the euro has found in the past week or so is a difficult theme to explain, but market irrationality is no rare thing. Eurozone growth data was awful last week; German growth slowed down and the eurozone manufacturing and services sectors as a whole contracted in January. The market must have priced negative eurozone growth in to a large extent. There was some brighter forward-looking news from the German economy, which the market chose to focus on; a German business climate survey joined mid-February’s economic sentiment survey in beating expectations to the upside.

As has so reliably been the case in recent months, when confidence and investment in the euro from large sections of the market has waned as the debt crisis intensifies, Asian sovereigns’ appetite for the single currency has remained solid. Asian central banks continue to diversify their reserves away from the US dollar in favor of the euro, as they seek to hedge their FX exposure.

The European Central Bank will be launching its second 3-year LTRO programme (cheap loan offering) on Wednesday. The effects of the first round of cheap loans in mid-December have been rightly celebrated as the reason for the stabilization we have seen in the eurozone. Bond yields in crucial countries like Italy and Spain are likely to be brought down again and it is likely to have a positive impact on sentiment towards the euro. Still, we do view the euro to be overbought and continue to anticipate a reversal of what has been a strong start to the year for the currency.

MPC minutes weigh on sterling but losses should be capped

Last week’s MPC minutes saw sterling suffer badly. The minutes revealed that at the rate-setting committees meeting a fortnight earlier, two (out of nine) policymakers had voted for a £75bn increase in quantitative easing, as opposed to the £50bn that was actually decided. It is no great surprise that arch-dove Adam Posen was plumping for further stimulus, though the additional vote from David Miles was a turn-up. Nonetheless, sterling’s losses looked overdone and the likelihood remains that the committees other seven policymakers will be reluctant to step up the BoE’s QE programme once again.

Data last week confirmed that the UK economy contracted in Q4 2011 (by 0.2%). Nonetheless, hopes are cautiously building that positive growth will return in the UK this quarter and a technical recession will be avoided. Whether it will or not should become clearer over the next week, with February’s set of monthly growth updates due from the UK’s manufacturing, construction and services sectors. With little chance of a rate hike in recent months, sterling has not been too responsive to domestic data but with rating agency downgrades looming, improved growth data essential if the UK is to maintain its all-important AAA credit rating.

Sterling is trading down at €1.18 today but the downside potential looks limited. The pound may begin to bounce soon. Against the US dollar, sterling continues to trade robustly. We have seen GBP/USD rejected twice at the $1.59 level during February, which could signal the end of its good run. In line with our bearish view of EUR/USD, we seeing the US dollar returning to favour soon. Another visit back down to $1.57 shouldn’t be too far down the road.

End of week forecast
GBP / EUR 1.19
GBP / USD 1.5750
EUR / USD 1.3250
GBP / AUD 1.47

Richard Driver
Analyst – Caxton FX
For the latest forex news and views, follow us on twitter @caxtonfx and sign up to our daily report.