Caxton FX Currency Round-Up: GBP/EUR, GBP/USD

Euro under pressure as ECB indicates cut to deposit interest rates 

The euro has been hit by a few different factors in the past few sessions. ECB President Draghi gave the single currency a knock last Thursday by revealing that whilst there would be no change to the Bank’s policy this month, we might expect some monetary easing next year. From Draghi’s comments, we no longer draw the conclusion that the ECB will cut the headline interest rate in Q1 next year. However, there were real indications that if growth disappoints and eurozone nerves spike in the coming months, we could see a cut to the deposit rate in a bid to encourage banks to step up lending.

Both the ECB and the German central bank (the Bundesbank) have delivered some fairly gloomy growth predictions in the past week. The former now sees the eurozone economy contracting by 0.3% next year, after previously predicting growth of 0.5%. Meanwhile, the Bundesbank disappointingly slashed its forecasts for German growth next year; reducing its June forecast of 1.6% growth to 0.4%.

We have had some good news today on the German front however, with a key economic sentiment survey hitting a seven month high. The latest sentiment and confidence surveys out of Germany suggest the country may narrowly avoid a recession, though a contraction in Q4 2012 looks highly likely. The German economy may not be in as weak as many had expected but the hopes for the rest of the eurozone are rather dimmer. This could well be highlighted by Friday morning’s eurozone PMI growth figures.

Italy hits the headlines as PM Monti announces resignation plans

Technocratic Italian PM Mario Monti dropped a bomb over the weekend by announcing his intention to resign once the Italian parliament has passed its 2013 budget. Berlusconi is waiting in the wings but his approval ratings suggest this is too big a mountain for even him to climb. Nonetheless, this political uncertainty - which raises serious question marks over Italy’s ability to deliver the necessary cuts and economic reforms to keep bond yields stable - could weigh on the euro significantly in the coming weeks and months.

All eyes on US Federal Reserve QE decision

Last week’s surprisingly strong figures from the US labour market are unlikely to satisfy the US Federal Reserve at its meeting over the next two days. We expect the Fed to decide to replace Operation Twist (which is set to be concluded) with a further $40bn in asset purchases, to bring its QE programme up to $80bn per month. There are various tweaks that the Fed can make to its monetary policy, to which the US dollar will respond differently. Given that sterling is trading at a very healthy rate of $1.61 at present, we would urge dollar-buyers to act now.  

End of week forecast

GBP / EUR	1.2450
GBP / USD	1.60
EUR / USD	1.29
GBP / AUD	1.53

Sterling has enjoyed a welcome little recovery against the euro amid some rather negative eurozone developments. At €1.24, we have not abandoned hopes of one last push for €1.25 before the end of the year. There is not much to get excited about with respect to sterling at present but we do expect enthusiasm towards the euro to wane from here. A move below €1.23 is looking increasingly unlikely.

Richard Driver
Currency Analyst 
Caxton FX

Osborne's Autumn Statement

George Osborne provided few surprises in his Autumn Statement earlier today. Growth projections for the UK economy were revised down significantly from over-optimistic figures from the March Budget. Tight credit conditions and external dangers will ensure a rocky recovery for the UK economy over the next few years. One notable success though has been the UK labour market, which has showed some strong improvements this year, with 1.2m extra jobs found under the current government. 

A key theme to take from the Office of Budget Responsibility is that the UK is in a weaker position in terms of both growth and its finances, when compared to the last update in March. This of course highlights the risks of a cut to the UK's AAA credit rating in the early months in 2013. In terms of sterling's performance in reaction to the day's events, the response has actually been pretty muted, which is a pretty good result in the circumstances.

Below is a summary of the key announcements made by George Osborne today.

Economy and Government Spending

·         The Office for Budget Responsibility expects GDP to contract by 0.1% in 2012, significantly down from forecasts of 0.8% growth in March. The OBR then expects the UK economy to grow by 1.2% next year.

·         The government’s fiscal consolidation programme is to be extended by another year to 2017/2018.

·         The UK budget deficit is set to fall from 7.9% last year to 6.9% this year.

·         National debt will not begin falling until 2016-17, a year later than previously expected.

·         UK unemployment is expected to peak at 8.3%, lower than initially expected, and employment is expected to rise every year moving forward.

Taxes

·         There is to be no new tax on property (“mansion tax”).

·         40% tax rate threshold will rise from £41,450 to £41,865 in 2014 and then £42,285 in 2015.

·         Corporation tax will be cut by another 1% in 2014, taking the rate to 21%.

·         Inheritance tax will rise by 1% in 2013.

·         Tax free allowance raise is to rise by £235 to £9,440.

·         Planned 3p rise in fuel duty not just postponed but cancelled.

Benefits and Pensions

·         Most working-age benefits to rise by 1% per year over next three years.

·         Child benefits are also to rise by 1% per year over two years from 2014. 

·         Tax relief on the largest lifetime pensions reduced from £1.5m to £1.25m starting in 2014-15, the annual allowance will now be £40k rather than £50k. 

December Monthly Report: GBP/EUR, GBP/USD

Greece drives euro rally but US fiscal cliff looms

Sterling was broadly unchanged across the exchange rates through November, except unfortunately (depending on your exposure, of course) against the single currency, where a significant decline was seen. We have seen some progress from the eurozone in recent weeks, from Greece in particular. A deal was struck to put the country’s debt on a more sustainable path, one that could give it a realistic chance of emerging out of the current crisis, though this is clearly many years away. Most importantly, the risk of a Greek exit and euro break-up has receded – the key factor behind the euro’s latest rally.

There has been something of a dark cloud hanging over the pound in recent weeks, caused by a mixture of negative UK data and pessimistic growth forecasts from the Bank of England. This in turn filtered into speculation that the UK could lose its AAA credit rating before long.

These factors haven’t stopped the pound from sustaining some very respectable levels against the US dollar however. There has been a marked improvement in growth data from the likes of the US, China and even the eurozone in recent weeks, which in combination with progress in Greece has lifted investor sentiment from a mid-November slump. However, with little progress being made on the US fiscal cliff issue, the dollar could well bounce back before the end of the year.

GBP/EUR

Sterling weak but downside limited despite weak UK data

It has been a difficult few weeks for this pair. The Bank of England brought the market crashing back down to earth with some pessimistic growth projections in the aftermath of the surprisingly strong Q3 UK GDP number (1.0%). Sir Mervyn King & Co have been very deliberate in managing our expectations with respect to the UK economy’s performance in the final quarter of the year, highlighting in the Quarterly Inflation Report that there are significant risks of another contraction.

November’s UK figures certainly didn’t point to a very robust start to Q4, with UK manufacturing sector growth contracting and the services sector giving its worst showing in almost two years. We also saw the worst UK claimant count update in over a year (after a very good few months it must be said).

The recent public sector net borrowing figure came in worse than expected thanks to tax revenues continuing to fall short, which painted a grim picture of George Osborne’s deficit-reduction plan. With Moody’s Investor Service having recently cut France’s AAA credit rating, many in the City are speculating that UK debt will be dealt the same hand before long. There is a high risk that one of the big rating agencies will swing their axe in the UK’s direction in the coming months and this has left its mark on sterling.

It hasn’t been all bad news as far as the pound is concerned. UK inflation ticked higher to 2.7% from 2.3%, which may have discouraged one or two MPC members voting for QE in their November meeting. The minutes from that meeting revealed that in fact only one voter, David Miles, was in favour of extending the BoE’s quantitative easing programme. On balance, we do not expect any further QE from the BoE, which should be supportive of the pound in the longer-term. However, persistently weak UK growth is likely to continue fuelling QE speculation. In addition, the MPC minutes appeared to remove the option of an interest rate cut for the “foreseeable future.”

Greek disaster avoided

 From the eurozone, November was very much Greece’s month. With a deal being struck to avoid an imminent default and bring Greek debt under some recognisable control, the market may be able to put this particular eurozone worry on the backburner to some extent. Nevertheless, there remains a high degree of scepticism towards Greece’s ability to meet its targets and towards a lack of detail within the agreement. We know that Greece will be granted longer to repay its debt and that interest rates on that debt will be lowered. However, it is unclear how the intended bond buy-back (at a discount) will be funded and when it will occur.

Spain has this week made a formal request for its crumbling bailout sector, which is a relief as far as the market is concerned. This isn’t to be confused with a sovereign bailout though and Spain will surely be the subject of the market’s cross hairs once again before long. We don’ think PM Rajoy will be able to avoid requesting a full blown bailout, given the dire state of economic growth and the still elevated borrowing costs that the country is facing (despite recent declines). Any realistic analysis of Spanish growth and debt dynamics over the coming years suggests that a bailout is inevitable.

Concerns over the wider eurozone growth issue in the eurozone have eased somewhat thanks to some recent updates. Germany and France both showed unexpected growth of 0.2% in the third quarter, while Italy contracted by half as much as expected (0.2%).  Nonetheless, we see nothing within the more forward-looking figures (despite the recent upturn in the German business climate) to suggest the eurozone can avoid a recession next year.

Sterling is trading at fairly weak levels around €1.23 at present and we are sticking to our long-term and long-held view that this pair’s upside potential outweighs its downside risks. Our hopes for a move towards €1.25 by the end of the year remain intact and, more importantly, realistic. In the short-term however, there is a strong risk of a move down towards €1.2250.

GBP/USD

Sterling soaring against soft US dollar, but for how long?

This pair’s downtrend has been interrupted in the past fortnight by developments in Greece, which have had a very uplifting effect on market conditions. The avoidance of a messy Greek default and euro-exit saw global equities rally, weakening the US dollar significantly. The $1.60 level has been recovered as a result but as ever we view sterling to be on borrowed time above this psychological threshold.

The US economy continues to show evidence of a strong finish to the year, demonstrated not least by the recent revised GDP figure for Q3, which revealed an annualised growth pace of 2.7%. Consumer confidence continues to climb and we are seeing the US housing and labour markets make further strides.

With the Greek ‘can’ kicked down the road, focus through to the end of the year is likely to be dominated by the US fiscal cliff issue. On January 1^st 2013, a series of sharp US tax rises and spending cuts are scheduled to come into being, unless negotiations between the Democrats and the Republicans bear some fruit in the coming weeks.

The fiscal cliff could as much as half US growth next year and in doing so dent the global recovery considerably; the stakes are extremely high. It is broadly for this reason that we expect US politicians to put some sort of compromise together, in the same way we expected Greek negotiations to produce a deal. Nonetheless, nervousness over this game of ‘chicken,’ which could well go right down to the wire, is likely to lead to increased demand for the safe-haven US dollar in the coming weeks.

Sterling is trading up at $1.61 level, which we view to be an excellent level at which to buy USD. In our view, sterling is highly unlikely to set fresh highs above this pair’s fifteen-month peaks in the $1.6250-1.6270 area. Sterling’s headroom is looking increasingly limited from here and we expect a move lower in the weeks ahead.  

Richard Driver

Currency Analyst

Caxton FX

Will the Reserve Bank of Australia cut interest rates in December?

We expected the Reserve Bank of Australia to cut interest rates at the start of November but Governor Stevens & Co decided to stay put with the 3.25% base rate. In our defence, this was pretty close to a 50:50 call. We still view the RBA as more likely than not to cut the rate by 0.25% in the early hours of next 

Tuesday morning (December 4^th). Of course, there are still clearly risks of another non-event, but in the last few days, the market appears to have come around to our way of thinking.

The minutes from the last RBA meeting were noticeably dovish, despite electing not to cut the interest rate, as indicated by the phrase “members considered that further easing may be appropriate in the period ahead.”

There have been mixed signs in terms of aussie data in the past month. Wage price growth data slowed right down, as did consumer inflation expectations, which both point to monetary easing. However, China’s manufacturing sector grew for the first in 13 months, which has made things a little more complicated.

The slowdown within the recent quarterly private capital expenditure figure has once again strengthened the case for a rate cut, as has this morning’s weak Australian private sector credit data. The decision last time was a close call; these figures should have tipped the balance in favour of a cut.

The peak in the mining boom is fast approaching, while the aussie government remains committed to fiscal tightening. The Australian economy should be in for an early Christmas present next week!

Richard Driver

Currency Analyst 

Caxton FX

Weekly round-up: Greek talks in focus

Markets are nervy ahead of Greek talks

There is a distinctive air of déjà-vu surrounding today’s meeting of the eurozone finance ministers, who for the third meeting in the space of two weeks are grappling with the IMF over Greece’s debt-reduction package, which should unlock the country’s next aid tranche. Talk has emerged this morning that a deal could be delayed until December 3, which would surely weaken the euro. There has been plenty of comment today from eurozone officials, from assertions that a deal today is “probable” to the less convincing “fully possible.” If an agreement does emerge, we expect the euro to benefit further but as it stands the situation remains highly uncertain.

Market confidence that EU officials will do what is necessary to avert a Greek disaster has helped the euro in the past week. Eurozone growth figures were also improved last week, whilst a key gauge of German business climate also impressed and lifted sentiment towards the single currency.

The weekend brought some mixed news from Spain, where in the Catalonian regional elections the separatist parties won but none failed to secure a majority. On balance, PM Rajoy will be relieved that Catalan President Mas’ party failed to secure the mandate to drive for a referendum on independence in the near-term, though with so much support for independence across separatist parties, the story will drag on.

US dollar hurt by positive headlines from across the world

As well as broadly encouraging news from the eurozone (Spain aside), there has been plenty to cheer about globally. A ceasefire in Israel has relieved geopolitical tensions, while the latest positive figures from the US and China have also improved trading conditions. This has seen global equities rally, an environment in which the greenback never trades positively.

The market will surely refocus on the issue of the US fiscal cliff once we can put the Greek negotiations behind us. The latest reports from the fiscal cliff talks have not been positive, so the uncertainty related to this is likely to be the trigger if the USD is to bounce back before the end of the year.   

GBP out of favour as fears of a UK ratings downgrade build

Last week’s public sector net borrowing figure was very disappointing. This, combined with ongoing indications from members of the MPC that we can expect a weak end to the year in terms of GDP, has sparked speculation that the UK’s prized AAA credit rating could fall foul of a cut from the likes of Moody’s. Much of sterling’ demand is down to its safe-haven profile, which is reliant on the UK’s top credit rating. However, the UK deficit is growing, despite ongoing austerity measures and UK growth remains extremely flimsy. Tuesday’s revised UK GDP number for Q3 will be closely watched.

There has been some rather better news for sterling in the form of the MPC minutes, which revealed only one policymaker voted in favour of more QE, whilst a cut to the BoE’s 0.5% base rate was viewed as unlikely in the foreseeable future.

End of week forecast

GBP / EUR	1.2300
GBP / USD	1.6050
EUR / USD	1.3050
GBP / AUD	1.5225

At €1.2350, GBP/EUR is trading at one-month low and we could see further weakness in the short-term. Losses should be limited to around a further cent however. Longer term, we remain confident of a bounce. Sterling has regained the $1.60 level but we do still favour the US dollar moving forward and would view the current level as a strong opportunity to sell the pound.

Why is the South African Rand so weak?

The rand has been on a downtrend for a while now; it was overvalued for a start but political uncertainty has really triggered quite an aggressive depreciation in recent months. Uprisings have sprung up across the country, with the death toll reaching fifty. Mineworkers are particularly prominent within the uprisings, with demands for wage increases the key driver of national anger.

President Zuma is under huge amounts of pressure and will struggle to be re-elected; latest approval rating suggests only 32% support the man in charge. Zuma has given himself a 5.5% pay increase recently – so it’s no surprise that he is under the cosh.

Naturally, this has limited the productivity of the country’s key economic growth contributors, such as its iron ore, platinum, trucking, wine and fruit industries. This is having a material impact on South African growth, GDP expectations have been repeatedly downgraded by the South African Reserve Bank. The outlook is pretty bleak too, with inflation high, unemployment likely to rise and global demand for South African exports likely to decline (particularly from the eurozone).

Unsurprisingly, investor confidence has taken a major hit; the use of armoured vehicles, rubber bullets and tear gas is not conducive to rampant commerce. With investors making for the exit, the rand has plumbed fresh multi-year lows across the exchange rates and with no real sign of the social and political unrest easing up, the rand is likely to remain on its downtrend for at least the next six months to a year. 

Richard Driver

Currency Analyst 

Caxton FX

King's "gloomy" outlook for UK growth hurts sterling

Sterling has had a tough session today on the back of this morning’s Bank of England Quarterly Inflation Report and subsequent press conference with Governor Mervyn King. King and his MPC colleagues were surprisingly pessimistic with respect to near-term UK growth. 

The Q3 UK GDP figure was very impressive - driven by temporary factors like Olympics - but it has been disappointing to see Mervyn King admit today that GDP is likely to contract again in Q4. We knew it would be weaker, significantly so, but we weren't expecting contraction. Beyond this and looking at next year, he expects growth to remain very sluggish, though he does foresee a gradual recovery. Unsurprisingly, the BoE views the eurozone downturn to be the biggest threat to UK growth.  

He does see UK inflation heading higher, which you might think would be positive for the pound given that it would make the Bank of England less inclined to add to its quantitative easing programme. However, when paired with weak growth, market nerves are jangling with respect to the dreaded ‘stagflation’ scenario. 

King said that he “has not lost faith in asset purchases as a policy instrument, nor has it concluded that there will be no more purchases.” This is hardly music to the markets ears and explains to a large degree why sterling has had such a rough session, more QE is not officially off the table as a policy option. However, we remain sceptical that we will see any more QE, at least in the coming months. What the market may have overlooked was King’s warning of the limits to what monetary policy can do to spur growth. We place more weight on this and accordingly, we see GBP/EUR recouping today's lost ground. 

Richard Driver

Currency Analyst

Caxton FX

Caxton FX Weekly Outlook: GBP/EUR/USD.

GBP/EUR recovers the €1.25 level and should head higher

This week’s quarterly inflation report will be very closely watched for an insight into where the MPC is standing with respect to the option of introducing further quantitative easing. Much to the relief of the pound, the committee declined the opportunity to take this measure at its monthly meeting last week. The UK services growth figure for October was disappointing and triggered some speculation that the BoE would take a safety-first approach, but it seems they placed greater weight on the recent positive Q3 UK GDP figure (1.0%).

We think the MPC will be too concerned with upside risks to inflation (which should be highlighted by a tick higher in Tuesday’s monthly CPI figure), backed by an underlying faith that the UK economy is genuinely in recovery mode now. More clarity on this issue will be provided by this week’s major UK data releases; Wednesday brings what is likely to be yet another positive UK labour update, while Thursday’s retail sales figure may provide a little more cause for concern.

A retreat in BoE QE bets has helped sterling to regain a grip on the €1.25 level in recent sessions. Whilst this rate has headed lower than we expected in the aftermath of the ECB’s bond-buying pledge and subsequent period of market relief, we do maintain significantly higher targets for sterling over the coming weeks and months.

US fiscal cliff worries underline positive US dollar outlook

The fiscal cliff issue is really weighing on market sentiment at present. The recent elections maintained the political status quo in the US, which means we are no closer to breaking the deadlock that could deal a major blow to the global economy. Combined with nervousness surrounding Greece and the risks of default, the fiscal cliff issue has boosted the safe-haven US dollar, helping it to rally against both the euro and the dollar in recent sessions. We expect sterling’s downtrend against the greenback to persist in the coming weeks.

Eurozone growth and Greece combine to weaken the euro

The flow of below-par eurozone growth data has been ominously steady this month. Germany appears to be in some real trouble, which is likely to once again be highlighted by Tuesday’s key German economic sentiment survey. Thursday brings a whole raft of eurozone GDP data, which will further highlight the downturn seen in France and Germany in the third quarter, as well as revealing another quarterly contraction for the currency bloc as a whole.

Weak eurozone growth has been put to the bottom of the agenda throughout this year but it is definitely starting to hurt the single currency now, particularly with Germany seemingly being dragged into the quagmire.

Greece is the key eurozone issue hurting the euro at present. We have had some relieving developments in the past week with Greece’s parliament approving major austerity measures as well as more belt-tightening within PM Samaras’ budget for next year.  However, there is still a distinct air of uncertainty in the financial markets over the country’s debt situation and its future within the euro. Realistically, it will take the release of the next €31.5 aid tranche to really ease investor concerns of an imminent disaster. A bond repayment is due on Friday, one which Greece cannot at present afford, so market tensions will remain elevated in the coming sessions.

End of week forecast

GBP / EUR	1.2550
GBP / USD	1.5800
EUR / USD	1.26
GBP / AUD	1.5150

Richard Driver
Currency Analyst
CaxtonFX

Reserve Bank of Australia cuts growth prospects

The news as far as the aussie dollar has been concerned this week has been remarkably positive. We have to hold our hands up and say that we were expecting the RBA to cut its 3.25% interest rate again at its meeting this week, though we did warn that it was an incredibly close call. On top of this, data revealed that 10.7 thousand jobs were added to the Australian labour market, which was away ahead of expectation. The aussie unemployment rate also unexpectedly remained 5.4%.

What followed all this was last night’s RBA monetary policy statement. In it, the RBA warned that the aussie mining boom will peak earlier and at a lower level than has previously been thought. It was previously thought that the mining boom would peak at 9.0% of GDP, expectations are that it will now peak at 8.0%. The central bank also complained further about the strength of the Australian dollar (change the record!)and proceeded to downgrade aussie GDP projections for this year from around 3.00% to around 2.75%, though admittedly we might have expected this downgrade to be more drastic.

The RBA stated that the current interest rate is appropriate and that past rate cuts are still filtering through and benefiting the Australian economy. The statement also sounded confident that the Chinese economy has stabilised, anticipating a gradual recovery in growth from here.

We suspect that Governor Stevens may be getting ahead of himself with respect to Chinese growth and Australian growth. While this week’s strong aussie jobs data may see the RBA delay a rate cut in December, we’d be surprised if we had to wait past January for another cut. 

Richard Driver,

Currency Analyst

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