Weekly Report - Sterling feeling the resistance after a mid-week boost, ECB lays out a clearer plan in the monthly bulletin, dollar takes a beating.

UK – Although the pound is performing very well this last week, there does seem to be resistance from other currencies against the pound, which is limiting its gains. Manufacturing Data on Tuesday gave Sterling a boost, but the question is how long can it stay in the spotlight with limited data in the next week to support it? UK data throughout the week will start off with CPI y/y figures on Tuesday, followed by the Claimant Count Change and Unemployment rate on Wednesday. The house view is that Cable will most-likely retreat from its relatively high levels, as the dollar continues to slowly but surely gain strength as the Federal Reserve winds down the QE programme.

Eurozone – The ECB monthly bulletin made it clear that there was not a change in the Minimum Bid Rate at the beginning of this month because “the moderate recovery of the euro area economy is proceeding in line with the Governing Council’s previous assessment”. However, the bulletin reiterated Draghi’s points from his press conference earlier this month that the ECB stands prepared to act swiftly with monetary accommodation and lower interest rates if required. This has helped to strengthen the Euro at the end of the week. In the next week, the only major event directly affecting the Euro will be German ZEW Economic Sentiment on Tuesday. The Euro ended the week on a high note, as the monthly bulletin last Thursday, combined with positive sentiment toward the Eurozone as the result of a highly-successful Greek bond sale, allowed it to gain strength near the end of the week. However, President Draghi blamed the strength of the Euro for the low rate of inflation in the Eurozone over the weekend, and made the statement that the “further strengthening of the Euro requires further monetary stimulus”, signalling that unconventional monetary policy may not be far away.

USA – FOMC meeting minutes which were released on Wednesday evening of this last week confirmed that there was discussion about the central bank’s collective concern over the low rate of inflation. The concern was not enough to warrant a clearer timeline of when we can expect the next interest rate rise, but the market has interpreted it as a sign that interest rates will stay low for longer, undermining the USD at week’s end. During this next week before the Easter holiday, the data to watch for which will affect the dollar will be Core Retail Sales m/m and Retail Sales m/m on Monday, Core CPI m/m and Janet Yellen speaking at a Federal Reserve conference in Atlanta on Tuesday, Building Permits data and Janet Yellen speaking again at the Economic Club of New York on Wednesday, and finally, Unemployment Claims and the Philly Fed Manufacturing Index data on Thursday. Cable does seem to be at the top of the range, and barring any big surprises in the market, we should see the dollar able to pare back some of the losses it sustained last week against other currency majors.

End of week forecast:

GBP / EUR	1.2100
GBP / USD	1.6650
EUR / USD	1.3750
GBP / AUD	1.7750

Nicholas Ebisch

Corporate Account Manager

Caxton FX

Sterling rallies on BoE's "no QE" decision

The Bank of England has today decided against adding to its asset purchase facility (quantitative easing programme), which remains at £375 billion. The result has been some further support for the pound, so cleary there were some lingering suspicions that the MPC doves would do enough to persuade a majority to vote in favour of QE. The BoE base rate also remains at 0.50%, though this was universally expected.

Despite disappointing updates from the UK services and manufacturing sectors in the past week, the MPC was always likely to hold fire on the issue of further QE this month. The UK GDP figure for Q3 would have firmed up several MPC members’ positions and from the comments emanating from the committee, several members doubt not only the need for further QE but the capacity of the measure to actually make a material impact. In addition the BoE thinks that the 2.0% inflation target will be hit regardless of more QE, due to persistently high inflation.

Whether or not the BoE will decide that further QE is necessary in the coming months really depends on whether the recovery that was indicated in Q3 materialises. QE should be seen as an emergency measure and UK data has revealed a slight uptrend of late, so it really wasn’t necessary in the absence of any fresh shockwaves. If the debt crisis or the eurozone downturn drags the UK back into a triple-dip recession then there is little doubt that the BoE will once again come to the rescue. As it stands though, its case of wait and see how this recovery progresses. 

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

Will Bernanke signal QE3 at Jackson Hole on Friday?

The US Federal Reserve’s annual retreat to Jackson Hole, Wyoming is always a headline-hitter. In 2010, Fed Chairman Ben Bernanke signalled QE2 in his Jackson Hole address and hopes are sky high that he will usher in a third round of quantitative easing tomorrow afternoon. Coupled with the eurozone debt crisis, US monetary policy has been the market’s obsession for a long time now.

The US recovery certainly hasn’t bounced back as expected from the weakness prevalent in the first half of the year. However, US data has been on an uptrend of late. We have seen monthly jobs growth improve for three consecutive months, whilst housing figures and consumer sentiment have also been on the up. In addition, data this week has revealed that the US economy grew at an annualised rate of 1.7% in Q2, rather than the initial estimate of 1.5%. This won’t have gone unnoticed at the Fed.

The minutes from the Fed’s last meeting stoked QE3 earlier bets this month, hinting that Bernanke & Co were preparing to act - “many members judged that additional monetary easing would likely be warranted fairly soon.” However, the wind was soon knocked out of the market’s sails when Fed policymaker Bullard stated that the minutes were “stale,” pointing to the upturn in recent US growth data as good reason for investors not to get ahead of themselves.

Nonetheless, it is probably fair to say that the majority of market participants are expecting Bernanke to signal QE3 tomorrow. It’s without doubt an extremely close call but our bet is that he will fall short of this benchmark, particularly in light of recent data. The Fed has various other policy options at its disposal, such as giving guidance on how long he expects US interest rates to remain “exceptionally low.” The bar has been set high though, only a QE3 signal is like to satisfy the market’s appetite tomorrow.

What will be the market’s response to the absence of a QE3 hint? Well, equities will no doubt take a hit and commodities and precious metals would follow suit. As for the dollar, well it should rally if Bernanke disappoints. Even if Bernanke gives the market what it wants, with QE3 priced in to the extent that it is, there is a good chance that investors will choose to take profit on short-dollar positions, which again would strengthen the greenback. With this in mind, we would prefer to be long of the dollar ahead of Jackson Hole. 

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.

Sterling set for a tough month

As has been the case for many months, eurozone concerns dominated market sentiment in July, so much so that the euro hit fresh multi-month lows across the exchange rates. Immediate concerns over the situation in Spain and Greece hurt confidence significantly, with weak economic growth across the globe adding to concerns. However, market sentiment and the euro have picked up considerably in recent sessions.

After the so-called progress that was made at the June EU Summit, there have been no material developments. The peripheral bond markets are always a good indicator of market tensions with regard to the debt crisis and Spanish 10-year bonds have hit fresh euro-era highs above 7.6% in recent weeks, with equivalent Italian debt setting its own record above the 6.5% level. Whilst economic growth throughout the eurozone is contracting sharply, Spain is edging towards a full-blown bailout and Greece could yet fail to secure its next bailout tranche, which is essential if the country is to avoid collapse.

Economic conditions in the US continue to provide plenty of cause for concern. The US economy slowed from a pace of 2.8% in Q4 2011 to a pace of 1.5% in Q2 2012. Poor performance in the world’s largest economy stunted the US dollar’s progress in recent weeks by increasing speculation that the US Federal Reserve is edging towards introducing the much-debated QE3 measure. However, the Fed’s recent meeting produced yet more ‘wait-and-see’ rhetoric, which has taken some weight off the dollar for the time being.

News out of the UK has also been far from comforting. Recent data has indicated that the domestic economy contracted by 0.7%, which is a shockingly poor figure well below expectations. The Bank of England has introduced another round (£50bn worth) of quantitative easing and the government has initiated an interesting new Funding for Lending Scheme to encourage banks to step up lending, but the effects of these are some way from being felt. In the meantime, UK growth is expected to remain very weak indeed. Sterling still holds some safe-haven demand, though this may be insufficient for it to avoid losses against the euro and dollar this month.

GBP/EUR

Having hit near four-year highs up towards €1.29, this pair has since erased its gains and at the current level of €1.26, it is back where it started in July. Whilst we do maintain that the pound will remain on its longer term uptrend, we anticipate some further short-term sterling softness in the coming weeks.

Spain spooked the markets in July, with borrowing costs soaring well above the 7.0% level amid a request from the Spanish regional government of Valencia’s request for financial aid and concerns of similar emergency needs across Spain’s regions. Spain’s banks have already agreed a bailout with international creditors and it has certainly discussed a full-blown sovereign bailout with Germany, which continues to demonstrate growing bailout-fatigue. In terms of austerity and economic reforms, PM Rajoy is doing all he can but investors are still hammering Spain in the bond markets. A sovereign bailout is looking increasingly unavoidable.

Last week’s ECB meeting was the most eagerly-awaited in a very long time but the market was left wondering what could have been. Draghi had a plethora of options available to him and after he stated that he would do “whatever it takes” to preserve the euro, he delayed any action whatsoever. The decision not to cut interest rates was unanimous after June’s 0.25% reduction, despite ECB President Draghi predicting that the eurozone economy is likely to recover only very gradually, whilst noting significant risks to further deterioration. Q2 was an awful one for the eurozone, with weakness in the periphery spreading to core states including Germany. The latest German and French manufacturing figures reveal a sharp contraction and eurozone unemployment remains a major issue, having recently reached a fresh record high of 11.2%.

Draghi disappointed the markets by suggesting that the European Stability Mechanism will not be granted a banking license, which had been previously indicated by an ECB policymaker and would have greatly increased the bailout funds’ firepower. Importantly, Draghi indicated that the ECB may move to buy up peripheral debt to ease pressure in the bond markets, but his comments fell short of a pre-commitment, never mind concrete action. German resistance to ECB bond-buying and demands for fiscal restraints represent a key obstacle to ECB emergency action.

Whilst alarm bells ring in the eurozone, the UK economy is also in a very weak state, which is best demonstrated by the recent-0.7% GDP figure from Q2, leaving the UK economy firmly in recession. Initial signs have not been positive for Q3 either; the UK manufacturing sector posted its worst figure in three years and the UK services sector gave its worst showing in eighteen months in July.

The Bank of England is clearly concerned with economic conditions in the UK, having introduced another round of quantitative easing in July to support the economy. The MPC voted 7-2 in favour of the £50bn top-up and there were suspicions that another dose would be approved at its recent August meeting in response to the latest shock GDP figure, though sterling has been spared this development. The government has also taken its own action to try to drag the UK out of recession in the form of its Funding for Lending initiative, designed to incentivise UK banks to increase lending, something that the Project Merlin initiative failed to do.

It needn’t be all pessimism towards the UK economy; there remains some fairly strong scepticism over the reliability of the awful initial Q2 UK GDP figure and in combination with the improved weather conditions, hopes for a significantly stronger second half of the year are not misplaced. The effects of the additional round of QE, the Funding for Lending programme should help the UK return to growth, though this may have to wait until Q4. Unfortunately though, initial expectations that the London Olympics will add 0.5% to UK GDP this year are receding.

The sharper than expected recession has highlighted the question marks over the UK’s treasured AAA credit rating. Rating agency Moody’s has retained its negative outlook for the UK’s credit rating, though fears have been quelled somewhat by Standard & Poor’s recent reaffirmation of the UK’s top rating with a stable outlook.

Sterling is trading at €1.26 at present, which represents a pretty aggressive decline from its multi-year high of €1.2878. With weak UK growth figures set to flow this month, we expect this rate to retrace further in the coming weeks down to €1.25. There is a risk that this pair will revisit its June lows of €1.2270 but on balance we think this is unlikely.

GBP/USD

Sterling has remained range-bound against the US dollar over the past month, fluctuating between $1.54 and $1.57. The news out of the US economy has broadly been very disappointing; June’s labour figures were alarmingly poor, manufacturing data was shaky and retail sales contracted sharply. In addition, the US economic growth rate of 1.9% (annualised) in Q1 slowed down to 1.5% in Q2 - almost half of the rate we were seeing at the end of last year.

Naturally, weak growth figures saw bets on QE3 ramped up yet again, which has been a thorn in the US dollar’s side for some time now. Ben Bernanke disappointed the market yet again in his July US Federal Reserve Press Conference. There was no QE3 announcement, nor any real signals that a move is imminent. Clearly this is good news for the US dollar, if not for global market confidence.

The recent release of July’s US non-farm payrolls figure should free up the US dollar to make some gains this month. Data revealed that 163 thousand jobs were added to the payrolls in July, which represents the best showing in five months and should ease fears of a sharp slowdown in the US for now. One thing is certain though, QE3 will remain very much on the Fed’s list of options for the foreseeable future. We see the Fed pulling the trigger on QE3 at some point in Q4.

Despite Moody’s recent reaffirmation of the UK’s AAA credit rating, market confidence in the pound appears to be waning thanks to a steady flow of weak UK growth figures. More of the same can be expected this month and to make matters worse, anecdotal evidence suggests the Olympics will fail to provide the economic boost that was initially expected. The Bank of England held off from adding another dose of QE at its July meeting but suspicions of another top-up will grow with every negative piece of UK data.

We hold a negative view of the EUR/USD pair in the coming weeks, based on continued uncertainty on all fronts; sharp contraction in eurozone growth, a possible Spanish bailout, Greek uncertainty and a continued imbalance between talk and genuine action. If EUR/USD heads down towards $1.21 as we expect, then this would almost ensure GBP/USD declines even if UK news is positive. Given that we expect news out of the UK to be negative, we feel this pair’s downturn could be quite aggressive. A move down $1.52 looks realistic in the coming weeks.

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.

BoE announces its Funding for Lending scheme, but how much impact will it have?

The Bank of England announced last Friday that it will start its funding for lending scheme in August, with £80bn being offered to banks at very little cost. The goal of the initiative is to stimulate economic growth through increased bank lending, which has remained constricted for several recession-hit years.

The Funding for Lending scheme follows a previous plan with similar aims called Project Merlin (2011), which was a ‘gentleman’s agreement’ between the BoE and the UK’s biggest lenders, RBS, Lloyds, HSBC and Barclays, to lend more money to small businesses and individuals. With lending actually reducing over the past year, Project Merlin has been dismissed as a failure. The difference in this new scheme comes in the way it is structured. With concrete deal terms and the opportunity for banks to receive considerably cheaper money from the BoE if targets are met, banks should be adequately incentivized to step up lending.

The money under the Funding for Lending Scheme will be offered to all large banks, with the cost of the loans based on their ability to continue lending. The cost will be dependent on its net lending between June 30 and the end of 2013. Banks that increase or maintain their lending over that period will pay 0.25% in interest. However, for every 1.00% fall in net lending, the bank will be forced to pay an additional 0.25% interest up to a maximum of 1.50% (still less than the current market price).

It is a measure of the economic quagmire that the UK finds itself in that this new scheme is being delivered in tandem with the Monetary Policy Committee’s decision to expand its asset-purchase facility (quantitative easing) by another £50bn.

The Bank of England’s figures show that the stock of bank loans to the corporate sector peaked in August 2008 at £517bn, but have since fallen by £95bn, a staggering 18%. The theory is that the availability of cheap loans may encourage some firms to take on loans in order to expand their business, especially those that were previously unwilling due to the high price associated with borrowing.

Of course there is some skepticism towards the scheme, the most notable being that banks may not pass on the cheaper lending, instead pocketing the cheap money, despite the higher costs that this would incur. Moreover, we are right to question whether withering bank lending is indeed a major factor behind the current recession. Is there really demand for loans? Are UK businesses really targeting expansion in the current climate? Or are companies just content to cautiously weather the storm and wait for friendlier economic conditions before they take on debt and with it, risk. Indeed the key drivers of the UK recession lie outside lending; the debt crisis and low consumer confidence to name just two.

Sterling responded positively to the announcement of the Funding for Lending details, with GBP/EUR spiking from €1.2650 to €1.2700, continuing the uptrend this pair has seen this month. Investors were clearly encouraged by the scheme with many believing that this could have a positive impact on the UK economy. Clearly events on the continent are of greater importance, GBP/EUR’s rise has much more to do with euro-weakness than with sterling-strength. Only time will tell whether the BoE’s new scheme will help UK growth pick up in the second half of the year – if it doesn’t you can bank on yet more QE. You can't blame the BoE for trying though, it must be seen to do something to promote growth, particularly amid rising extermal threats from the eurozone.

Adam Highfield
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 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.

Caxton FX Weekly Round-up: Euro takes a hammering

ECB cuts rates and the euro takes some punishment

The ECB met expectations last week by cutting the eurozone interest rate to 0.75%. In addition, the deposit rate was cut to zero. This all makes the euro the second-lowest yielding currency in the market after the swiss franc, which is likely to see investors increase their use of the euro as a funding currency for carry trades into higher-yielding currencies. This should be a major factor weighing on the euro moving forward.

For many, the ECB’s rate cut did not go far enough in offering support to the eurozone’s deteriorating situation. There is a significant chance of another interest rate cut at the ECB’s next meeting in August, as there is of alternative easing measures such as another LTRO (cheap loan offering).

The post-EU Summit optimism has well and truly run its course and the market sentiment has once again turned negative. Spanish bond yields are back up at 7.0%, while global equities have tumbled for three days straight. Eurozone investor sentiment data was very poor on Monday morning and with the market already reflecting on recent weak data from the US, Japan and China, the euro has come under some pressure.

It is not all bad news for the euro, however, as we have heard today that Spain will be granted a year’s grace until 2014 to meet its deficit target of 3%. This has been insufficient to trigger any major euro bounce, which is sitting close to 3 ½ year lows against the pound and 2 year lows against the USD.

US data spooks market and risk aversion takes hold

The key monthly figure from the US labour market disappointed last Friday. It is always interesting to see how the US dollar reacts to weak domestic data and Friday’s installment proved supportive of the greenback. Dollar-friendly risk aversion was the knee jerk response, despite the fact that the downtrend in US data is likely to push the US Federal Reserve into finally pulling the trigger with regard to QE3 later this year. There is a chance that the Fed will do so on August 1st and much depends on US data in the intervening period, but we suspect Ben Bernanke & Co will choose to keep their powder dry for another month at least.

The flight to the safety of the US dollar has seen GBP/USD lose some ground in the past few sessions. The Bank of England’s decision to inject another £50B of quantitative easing into the UK’s flat lining economy was broadly priced in, though last week’s poor growth figures from the UK’s construction and services sectors in particular were not helpful for GBP. The week ahead is fairly quiet in terms of domestic data, with only manufacturing production data and trade balance data likely to receive much attention.

EUR/USD was last week’s major mover, having tumbled from above $1.26 to below $1.23 in the space of just three sessions. We have been calling for a slide down towards and below $1.20 and this latest euro sell-off has only strengthened our resolve. GBP/USD fell as well, but not by as much (it fell from $1.57 to $1.55). This cleared the way for GBP/EUR to help itself to some easy gains up above €1.26. These are clearly strong levels at which to buy the euro in the short-term, though in the longer-term we target levels even higher in the direction of €1.30.

The market will look to the meeting of EU finance ministers over the next two days for a decision to activate the buying of peripheral EU debt but as ever there remains plenty of scope for disappointment here.

End of week forecast
GBP / EUR 1.2625
GBP / USD 1.5475
EUR / USD 1.2250
GBP / AUD 1.53

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 July Currency Report: EUR, USD, GBP

Euro enjoys some respite but looks poised for another decline

It’s been a volatile few weeks with market sentiment chopping and changing, amid several important eurozone and US developments. Despite increasingly poor US growth data, the market was deprived the decision from the US Federal Reserve to introduce quantitative easing. Global economic growth in general is on a clear downtrend trend and investor confidence remains extremely fragile as a result.

From the eurozone though, we have at least seen some rare progress. The second attempt at the Greek general election produced the ‘least worst’ result and a coalition government has finally been formed. This development has eased short-term concerns of a messy default and a ‘Grexit’ but the real progress is yet to be made. Greece still needs to find a way of renegotiating the crippling terms of its bailout agreement, though Merkel’s tough stance provides plenty of scope for deadlock.

Euphoria relating to the avoidance of a Greek disaster (for now) was short-lived, with concerns towards Spain quickly taking hold. Spain’s bailout request for its troubled banks comes amid a host of downgrades to both the sovereign and its banks’ credit ratings, while soaring government bond yields threaten to force Spain itself into a bailout request.

Crucially, the results of the recent EU Summit exceeded expectations by some distance. Commitments were made on a more flexible use of the EU’s rescue funds in the sovereign bond markets (though details were conspicuous in their absence). Importantly, the EU rescue funds will be able to shore up Spain’s banks directly rather than being channeled via the government’s already debt –laden books. It was also confirmed that those loans would not have senior creditor status, easing concerns from private bondholders that they would be last in the queue for debt repayments.

June was an eventful month in terms of the UK economy as well, with speculation rife over Bank of England monetary policy. The Monetary Policy Committee made no changes in June, though the minutes from its meeting and subsequent comments were very revealing as to its next move. David Miles, the lone dove in favour of quantitative easing in May was joined by three other MPC members in June. We are expecting the pro-QE camp to secure a majority at its meeting this week, though the impact on sterling should be minimal.

GBP/EUR

Sterling poised for higher climbs against the euro

Sterling has edged higher against the single currency, which continues to suffer from the pressures of the debt crisis. Whilst EU leaders have made some steps in the right direction of late, we still see stalling eurozone progress pushing sterling higher against the single currency.

Sterling’s gains may be a little surprising given that news from the UK economy has been consistently negative; the UK manufacturing and construction sectors remain in the doldrums, while UK services sector continues to grow but is unable to pick up the slack. Data out of the labour market has been typically poor and the Q1 GDP contraction has been confirmed as -0.3%. Disappointingly, the Q4 GDP figure for 2011 was revised down from -0.3% to -0.4%, though such backward-looking data was not damaging to sterling.

There have been some small pockets of optimism, with UK retail sales bouncing back impressively from April’s collapse but as emphasised by Bank of England policymakers in recent weeks, the risks posed by the eurozone debt crisis are great and the UK’s prospects are highly uncertain. Overall, UK growth data over past three months (Q2) points is indicative of another contraction in UK GDP, so the double-dip recession rolls on.

Accordingly, we now fully expect the MPC to introduce another round of quantitative easing at its next meeting on July 5th. The UK inflation rate dropped from 3.0% to 2.8% in May, which along with ever-increasing concerns over UK growth as expressed in last month’s MPC minutes, seems almost certain to push the MPC into additional monetary stimulus this week. With regard to a cut to the BoE’s record-low interest rate of 0.50%, the issue has certainly been discussed by the MPC but QE is looking the preferred route to supporting the domestic economy at present.

EU leaders take some steps in the right direction

Unsurprisingly, conditions in the eurozone were extremely volatile in June and this will doubtless remain the case in July. While New Democracy may have secured a narrow victory in the re-run of the Greek general election and formed a coalition government, the renegotiation of Greece’s bailout agreement is bound to place Greece uncomfortably under the spotlight once again in the coming weeks. Greece’s negotiations with the Troika over its bailout terms are expected to take place on July 24th, so expect some major uncertainty around this date.

Importantly, the EU Summit has eased concerns surrounding Spain by producing an agreement to allow the EU’s rescue fund to directly recapitalise its banks, rather than adding to the sovereign’s debt to GDP ratio and driving up its borrowing costs. Market players were also extremely relieved to learn that bailout loans to Spanish banks will not be granted senior creditor status and that the eurozone rescue funds will be used more flexibly to allow peripheral bond-buying.

Nonetheless, the euro has been sold after its recent rally, which goes to show the scepticism and doubts that remain with regard to the future of the eurozone. Growth-wise in Q2, the euro-area could be looking at the worst quarterly growth figure in three years. There are also still huge implementation risks to the decisions that were made at the EU Summit, as shown by Finland and the Netherland’s recent pledge to block any bond-buying by the eurozone’s bailout funds.

The eurozone’s €500bn bailout resources are still inadequate and Merkel continues to stand firm against the introduction of Eurobonds. Progress was certainly made at the EU Summit but they were crisis management decisions, rather than decisions which can fundamentally change the direction of the debt crisis. No long-term solution is in sight and in addition, the ECB is set to reduce the euro’s yield differential this week by cutting its interest rate from 1.00% by at least 0.25%.

In short, we remain bearish on the euro and continue to favour the safety of sterling. There should be several opportunities to buy euros with the interbank above €1.25, while there is a significant chance of seeing this pair test its 3 ½ year highs of €1.2575.

GBP/USD

Sterling looking vulnerable against the greenback after strong run

The US dollar traded rather softly for much of June, which was not wholly surprising given the huge rally it enjoyed in May. The dollar has been held back by profit-taking in the wake of the USD’s May rally. It has also been hemmed in by fears (or hopes, depending on your exposure) that the US Federal Reserve will decide to usher in further quantitative easing (QE3). QE3, if it comes, will boost risk appetite away from the US dollar as investors target higher-yielding assets.

In its June 20th meeting and subsequent announcement, the Fed decided not to pull the trigger on QE3 and the dollar responded positively as you would expect. US data has without doubt increased the chances of QE3; figures from the retail and manufacturing sectors have been particularly disappointing, while consumer sentiment has also taken a turn for the worse. Most importantly as far as the Fed is concerned, key growth data from the US labour market weakened for the fifth consecutive month in June. Nonetheless for now, the Fed is keeping its powder dry with regard to QE3, holding it back to deal with a potentially even greater deterioration in US growth.

US dollar to bounce back

As shown by the knee-jerk response to the recent EU Summit, progress on the eurozone debt crisis can always lift market confidence to weaken the dollar. However, as shown by the market’s fading post-Summit enthusiasm, investors are proving increasingly hard to convince.

We think that the tough resistance that EUR/USD is meeting at levels above $1.27 will hold, which should usher in a move lower and possibly a retest of May’s lows below $1.24. GBP/USD is meeting resistance at $1.57 and we also think this resistance level will hold, making a move lower for this pair equally likely. We consider current levels to be a strong level (in the current circumstances) at which to buy dollars, with the rate heading back down to $1.55 in July.

Monthly Forecasts

GBP/EUR: €1.2550
GBP/USD: $1.55
EUR/USD: $1.24

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 point to July QE call, but it's fully priced in

Yesterday’s MPC minutes dropped a bit of a bomb as far as we are concerned. They revealed that three MPC members (Posen, Fisher and King) have joined David Miles in voting for another round of quantitative easing. Posen was bound to vote for more QE after backtracking in light of weak recent UK growth data. That was as far as we saw the voting pattern shifting really, so the extra two votes came as a surprise.

The language of the MPC minutes were decidedly dovish and given that the UK inflation rate has surprisingly eased to 2.8% (from 3.0%) since the last meeting, we expect at least one other MPC policymaker to join the dovish ranks in July, and that is all that will be needed. The fact that BoE Governor King will be there to lead the doves makes a QE majority all the more likely, as will the intensifying risks out of the eurozone.

The following quote tells you that more QE in July is pretty much nailed on: “most members judged that some further economic stimulus was either warranted immediately or would probably become warranted in order to meet the inflation target.”

Amid plenty of speculation that the Bank of England could cut the base rate from the current record low of 0.5% for the first time since March 2009, it is interesting to note from the minutes that whilst the MPC did discuss the merits of a rate cut, they saw no advantage in doing so at the present time.

Sterling has weathered this week’s QE storm very well, not least because, thanks to the global economic downturn, there are very few currencies without risk-factors surrounding them. The dollar has suffered considerably from QE3 speculation, which the Fed has made clear it could opt for this year, whilst the euro has more problems than this blogger has time to allude to. All in all, sterling actually held up pretty well during the last round of QE and given that another round of QE will by now have been fully priced in, it shouldn’t be too much of weight on sterling moving forward. Fortunately for GBP, the market is rather more concerned with the Grecians.

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

Greek election out the way but euro remains vulnerable

Greece votes in favour of the euro but market relief short-lived

The long-awaited Greek elections last Sunday produced the result the market wanted, but only to an extent. New Democracy - the main pro-bailout, pro-euro party – won the election, but by only the smallest of margins, so the uncertainty of coalition-forming remained. What also remains are the inevitable attempts to renegotiate Greece’s bailout terms by any coalition that does form. With Merkel sounding as tough as ever on Greece this week, negotiations are likely to be tense and drawn out.

The market has been to the brink several times before in the case of Greece and the euphoria in response to the Greek election result was understandably short-lived. Certainly the worst-case scenario – a victory for the leftist Syriza and a potential euro-exit- was avoided but investors know full well that Greece’s second bailout will not buy sufficient time for Greece to get its house in order in a permanent sense, so the country’s painful saga continues.

Spain is very much in the headlines at present, as the country’s 10-year bond yields have broken through the dreaded 7.0% level which has forced other eurozone nations into bailout requests. Spain has already reached an agreement for a €100bn bailout of its banking sector, but these borrowing costs could ensure the sovereign itself will be requesting a bailout before long. The delay to the second part of the audit of Spain’s banks until September has not helped sentiment one bit, with suggestions being made that Spain’s bank could need more than €100bn.

Germany is likely to be the next country to dominate the headlines, though unsurprisingly not due to economic weakness or high debt levels. June 29th will see the German parliament vote on the EU fiscal treaty and the creation of the permanent eurozone rescue fund. Any indications that Angela Merkel is losing her grip on power domestically are likely to weigh on the euro significantly. Nonetheless, Merkel is widely expected to prevail in the vote.

Sterling firm ahead of MPC minutes release

Tomorrow’s MPC minutes will reveal the voting pattern with respect to the introduction of further UK quantitative easing at the MPC’s June meeting. Today’s weak inflation data has already made the domestic environment a more QE-friendly one, though we look back to last week’s Mansion House for indicators that the majority of the MPC will have different ideas. King announced an £80bn ‘funding for lending’ speech, which suggests the BoE are looking at alternative ways of boosting UK growth.

This week also brings US Federal Reserve monetary policy into sharp focus, with the central bank meeting and giving its statement and economic projections on Wednesday. Increasingly weak US growth data has pressurised the dollar of late but we continue to bet that the Fed will hold fire for now.

Having dipped as low as €1.2270 last week, GBP/EUR is now trading at €1.24, which is a reflection of the market’s muted response to the Greek election. We remain confident that we will see May’s highs just below €1.26 before long, though developments in Greece and Spain could have the final say about just how soon this will be.

Sterling is trading at $1.57, thanks to fears that the Fed is edging towards QE3. The current retracement in the EUR/USD pair is not something we see being sustained much past $1.28, which leaves upside potential from the current $1.2660 level as pretty limited.

End of week forecast
GBP / EUR 1.25
GBP / USD 1.5650
EUR / USD 1.25
GBP / AUD 1.53

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.

Doom and gloom on the domestic front but GBP remains popular

The perpetual threat to the global financial system that is Greece has dominated the headlines in recent weeks. The country’s May 6th elections saw the ruling pro-bailout coalition fail to secure sufficient support from Greece’s angry electorate. This ushered in a month of huge uncertainty as the market looked ahead to another Greek election on June 17th; with speculation growing that Greece’s anti-bailout parties would curry enough favour to form a coalition. The logical result of a rejection of Greece’s second bailout agreement would be default and an exit from the euro, so it should come as no surprise that the euro suffered further declines.

The pound was a key beneficiary of these euro declines, despite the negative implications that the eurozone debt crisis has on the already dire state of the UK economy. Recent data not only confirmed that the UK entered a double-dip recession in Q1, but it contracted by 0.3% rather than the 0.2% initially estimated. Taken with April and May’s growth figures, which are pointing to a soft start to Q2, this has unsurprisingly triggered fresh speculation that the MPC will edge back towards introducing more quantitative easing in the second half of the year. We are doubtful in this regard, for now.

Sterling is trading at impressive levels against the euro and despite a period of profit-taking in the past week or so, it remains at strong levels against the majority of global currencies thanks to its safe-haven, euro-alternative tag. However, as usual there is one currency sterling can’t outperform in the strongly risk averse trading conditions that characterised most of May – the US dollar. The dollar has helped itself to some easy and significant gains across the board as the eurozone debt crisis forces market players to unwind their riskier positions in favour of the safest of assets.

GBP/EUR

Sterling remains firm and continues to threaten higher climbs against the euro, 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, 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 17th. Yet another Greek election is a distinct possibility.

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 – no mean feat. The EU Commission has recently reminded Greece 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.

Spain rings alarm bells

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 as a whole. 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 that they tend to become a self-fulfilling prophecy. In short, Spain is in very serious trouble and its government has admitted as much – requesting EU help with bank capitalisation. This is no minor development given that Spain is the eurozone’s fourth-largest economy and emergency help for Spain will inevitably turn the market’s gaze towards the third-largest – Italy.

UK economy still looks frail

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 and weakness in UK growth figures has become alarmingly consistent. 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.

Euro to weaken further

So, despite the UK economy sitting uncomfortably in a double-dip recession and facing a prolonged period of stagnant growth and ultra-low interest rates, sterling looks free to continue taking advantage of an increasingly euro-negative environment. Some major steps towards EU fiscal union will be required to ease market sentiment, and the obstacles to this are all too clear.

Sterling/euro hit heights of €1.2575 in mid-May but has come off those highs to the current level of €1.24. 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. €1.26 is a realistic target in the coming few weeks.

GBP/USD

Whilst sterling has enjoyed something of an easy ride against the troubled euro, against the US dollar it has been an altogether different story. Again, market uncertainty best explains the US dollar’s stellar performance in May. It’s fair to say that the market is in a state of panic at the moment, concerned with a ‘Grexit’ and most recently a ‘Spexit.’ Amid such monster question marks, there has been widespread flight to the safest assets such as the US dollar. Sterling may be markedly a safer alternative to the single currency, but its safe-haven status cannot compare with that of the greenback.

The rug has finally been pulled from underneath the EUR/USD pair. The scale of the eurozone’s current problems is now being reflected in the price of the euro; EUR/USD has declined by over 5.0% from $1.3150 to $1.25 in the space of just one month. We do see the EUR/USD pair considerably lower in the coming months, which will inevitably weigh on the GBP/USD pair.

The US dollar is not without its own domestic economic concerns, with recent data confirming that the US economy grew at an annualised pace of 1.9% in Q1, down from the initial estimate of 2.2% and well down from Q4 2011’s 3.0% pace of growth. Progress in the US labour market has also slowed right down, which has once again seen speculation that the US Federal Reserve will introduce QE3 step up a gear. Whilst the US economy is stalling as we enter the summer, it is still firmly in recovery mode. We continue to hold the view that the Fed will want to gather more evidence about the US recovery’s direction before pulling the trigger on more quantitative easing, so we view the current QE3 concerns as over-hyped.

Safe-haven dollar to outperform

Sterling has recently revisited January’s lows below $1.53, having suffered a 6.5% drop against the US dollar in the space of just four and a half weeks. Sterling has finally bounced against the US dollar and is currently trading at $1.55, but we think this will prove temporary. A consolidation period was always likely after such a steep drop, but we should see lower levels tested once this current bout of profit-taking on the dollar’s recent rally has run its course. Lower levels in the $1.51-1.52 area could well be seen in June as the negative eurozone headlines once again take their toll.

Caxton FX one month forecast:

GBP / EUR : 1.26

GBP / USD : 1.5150

EUR / USD : 1.2050

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.

The Queen’s Jubilee: Good or Bad for Sterling?

Now there’s no doubt that the people of the UK are welcoming with open arms the extra bank holiday that will be part of the Queen’s Jubilee celebrations. However, if we take the similar example of last year’s Royal Wedding, then we can expect a significant hit to the UK economy.

It is estimated that the Royal Wedding in 2011 weighed on the UK’s gross domestic product (growth) by 0.4%. An extra bank holiday means businesses are closed for longer - economic activity is reduced. Of course, there is likely to be increased spending on the high street and a boost to industries such as leisure and hospitality. This will certainly compensate for some of the impact on UK growth, but not all of it.

The Jubilee looks set to weigh on growth by 0.3 - 0.6% again this year, which is the last thing that the UK’s struggling economy needs right now. Data last week confirmed that not only did the UK economy contract for a second consecutive quarter but by even more than expected (-0.3% q/q). With the Jubilee set to constrain quarterly growth which was only ever likely to be flat at best, we can expect third consecutive quarter of negative growth.

What does this mean for sterling? Well, it won’t necessarily hurt sterling. After all, last week saw the release of some awful UK retail sales growth data, some much weaker domestic inflation data and a downward revision to the Q1 UK GDP figure. Regardless, sterling performed strongly, thanks to the ongoing focus on all things eurozone and the risk averse, sterling-friendly trading conditions this is creating.

Of course the risk remains that more negative growth will convince the MPC that more quantitative easing is necessary, but as yet the majority of the nine policymakers seem happy to let the last round of QE to feed through, particularly with medium-term UK inflation risks well-balanced and present inflation levels still elevated.

One common ‘silver-lining’ lining argument is that while the Jubilee may hurt Q2, the London Olympics are only just around the corner in Q3. Estimates have surfaced that the spending linked to the Olympics will boost UK GDP by 0.5%. We approach these predictions with a great deal of caution though, as do the Bank of England, since the impact and success of mega-events such as the Olympics are highly unpredictable. Sydney 2000 boosted Australia’s economy considerably, while Athens 2004 left the Greek economy crippled.

We maintain a positive view for sterling this year, except against the US dollar, regardless of stagnant/negative growth. Clearly the caveat here is that the picture may change if growth is so poor that the BoE pull the trigger on more QE – a major downside risk for sterling. Looking at the limited impact of the last round of QE on sterling though, there is a good chance sterling will hold up firmly again.

Richard Driver
Analyst – Caxton FX

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

Greek opinion polls provide some hope but confidence still fragile

Greek opinion polls give the market some hope

The euro was given some relief in early Monday trading by the positive news that in Greece, the conservative and pro-austerity party - New Democracy – has edged ahead of the anti-bailout party Syriza in the opinion polls. If New Democracy can hang on to their lead and re-establish a pro-bailout, pro-austerity and pro-euro coalition, then fears of a Greek exit should subside. Judging by the euro’s brief and fairly minor bounce since the weekend though, the market remains understandably cautious.

Concerns over Spain are also growing, as the country’s ten year bond yields climb towards 6.50%, bringing into view the dangerous 7.0% benchmark which forced other peripheral nations, like Portugal and Greece, into requesting bailouts. Spain’s fourth-largest lender Bankia requires a bailout and the Spanish region of Catalonia is also in need of help to refinance its debt. Consequently, the risks of a Spanish sovereign bailout are increasing, which would create a huge amount of stress on the EU’s aid resources, as well as raising major question marks over Italy.

In addition to these mounting Spanish concerns, growth data from the eurozone was all pointing the wrong way last week. Figures from the German, French and eurozone-wide services and manufacturing sectors almost all disappointed, suggesting that the eurozone’s avoidance of economic contraction in Q1 will prove temporary.

With respect to the issue of Eurobonds, Germany doesn’t look like it will budge. What’s more, Austria, the Netherlands and Sweden have joined Germany in expressing their opposition to the idea of common eurozone bonds, so market hopes for a silver bullet have once again been quashed.

US GDP figure should confirm slowdown

This week brings two important growth figures from the US, in the form of the revised GDP estimate for the first quarter of 2012 (due on Thursday). The figure is expected to be revised down from 2.2% to 1.9%, well off Q4 2011’s impressive quarterly reading of 3.0%. Friday brings the monthly update from the US labour market and improvements in this area are expected to be moderate at best.

The US dollar’s safe haven status has very much come to the fore in the past month. Clearly ongoing softness in US figures keeps QE3 on the table as far as the Fed is concerned but we see safe-haven demand helping it appreciate further across the board. In particular, we foresee heavy losses for EUR/USD in the second half of this year, which will inevitably drive GBP/USD lower too.

Sterling is trading up above €1.25 this afternoon, with the positivity surrounding the Greek opinion polls already having dissipated. Sterling weathered some awful data last week, including a downward revision to the UK’s Q1 GDP figure to -0.3% and a steep drop in the domestic inflation rate. However, sterling’s safe-haven status still looks likely to push it even higher against the euro.

In contrast, sterling is always going to be under pressure against the US dollar. It should benefit from a minor short-covering bounce soon, though a return anywhere close to $1.60 looks a stretch now. Risk appetite away from the US dollar is likely to be hard-pushed to return in force ahead of the June 17th Greek elections.

End of week forecast
GBP / EUR 1.26
GBP / USD 1.5750
EUR / USD 1.25
GBP / AUD 1.6050

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