George grinds the gears

Despite the strong anticipation of a rate hike in the UK (as reported in my blog yesterday), the pound has more or less limped to a halt on the back of Chancellor George Osborne’s announcement of his increased tax on banks – imposing the full 0.05% straight away, as opposed to the starter 0.075% levy that was originally planned.

The pound pretty much fell across the board, falling a half cent against the USD and almost a cent against the euro (after 5 consecutive days on the up).

The extra levy will hope to raise £800m as Britain’s government aims to plug its record budget deficit, however the announcement will have come as a shock to banking leaders who are in the middle of negotiations with ministers about project Merlin – a deal looking to make available £190bn of credit for businesses and showing restraint in bonus payments.

George Osborne’s decision to act now, and impose the full levy straight away has been vindicated, he believes, by the increasing financial health that the banks are finding themselves in; the fact that it’s been imposed just before bankers’ bonuses are due will no doubt be seen as a decision based on political pressure.

Public pressure sways politics, and there is nothing more popular than banker bashing! But is this really necessary considering the amount the financial sector adds to the British economy? Banking leaders will meet this afternoon to discuss whether it remains sensible to sign up to Project Merlin – a decision that won’t be taken lightly if the government doesn’t resist the temptation to bash them when the political heat is on.

This sell-off of the pound is likely to be a knee-jerk reaction to the news, in an otherwise quiet day, a blip on the radar in an important week of decisions, but it will be interesting to see how the Chancellor balances the need to keep Britain as the top dog in global financial services against the understandably angry public going forward.

Edward Knox

Analyst - Caxton FX

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

Interest rates - an interesting dilemma

To raise, or not to raise, that is the question: (for this week at least). The Monetary Policy Committee (MPC) meet this Thursday with the market keeping a closer than usual eye on their decision.

Speculation is certainly rife – the pound being the happy beneficiary of this, hitting a 3 week high against the single currency, but how will they vote, and what are the likely outcomes?

The likelihood is that they will leave the rates on hold for now. However, it could well be a much closer call than many expect.  One reason for a possible February rate hike could be if the committee decides to disregard the Q4 GDP estimate; by this stage the MPC will have had access to December’s data for industrial production and construction, and that other bit of crucial information – the January Consumer Price Index data (CPI). If this is overly high, King and his cronies could move to prevent inflation expectations being destabilised.

Andrew Sentance, a relatively long standing hawk on the interest rate dilemma, and Charles Bean – the deputy governor of the Bank of England - further added fuel to the fire in interviews given last week. The latter stated in response to the problem of global commodity price inflation that the committee “may well have to respond to that by keeping domestically generated inflation lower”.

It is not inconceivable then that the bank will raise interest rates as early as February – a modest increase would be favoured over a sharp one. What is certain however, is that there will be a highly nervous market in the coming few days...

Edward Knox

Analyst - Caxton FX

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

US payrolls down and unemployment down...huh?

As is too often the case, the US non-farm payrolls offered up less information than it did stir up confusion. The actually employment change was far weaker than the market had hoped for, coming in at an additional 36,000, against forecasts of 139,000. However the unemployment rate dropped from 9.4% to 9.0%. 

This dramatic fall in the jobless level could come as a result of a drop in the number of people actually seeking employment. As they cease to look for work, they cease to be classified as unemployed. The disappointing employment change data is likely to take the prominent position among investors as we head in to next week, but nonetheless the dollar has enjoyed a strong close to the week.

The euro dropped to a ten-day low of $1.3547 as investors used the mixed data as an excuse to cash in on profits. The pound has also lost ground this afternoon, dropping back below $1.61.

However heading into next week, we continue to fly the flag of sterling optimism! When the market looks closely at today’s US employment figures it’s likely to conclude that the Fed are going to be in no further hurry to tighten policy. Indeed, Fed Chairman Bernanke could well reiterate that stance during a speech in front of the House Budget Committee on Wednesday, which would pile the pressure back on the dollar.

Against the euro too we see some upside next week ahead of the Bank of England’s policy announcement on Thursday. The market is pricing in a very small chance that the Bank could actually decide to raise interest rates. We’re unconvinced (as I think most are) that they’ll go ahead with such a move but that won’t stop little rumours being thrown around, which shouldn’t do sterling any harm. 

In the meantime, the currency markets can take a back seat as Twickenham lights up the opening of this year’s Six Nations!  Who guessed it would be Mike Tindall at the helm for England.…!?

Duncan Higgins

Senior Analyst - Caxton FX

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

Sterling romps up

Having dropped as low as €1.1530 at the end of January, the pound has enjoyed a strong resurgence this week following some upbeat UK figures. The triple whammy of the three leading industries – manufacturing, construction and services – all came in significantly above forecast, raising the prospects for a strong opening quarter - further discrediting the catastrophic fourth quarter GDP estimates, which showed the UK economy in contraction.

Sterling has been given an additional leg-up from some long overdue euro weakness. In a press conference earlier today, European Central Bank President, Jean-Claude Trichet played down the risk of eurozone inflation stating that inflation risks are “broadly balanced” – a rather beige phrase which more or less summed up the press conference. The market had been pricing in a “ratcheting up” of hawkishness – this damp squib of a comment then more than dampened recent speculation about an interest rate rise which I alluded to in my blog post only yesterday.

More often than not, higher interest rates boost the appeal of a currency so with Trichet stemming that prospect the euro has lost ground. 

The exchange rate has now moved up above €1.18, its highest point in a fortnight. The next key event in the calendar to watch out for will be the Bank of England’s policy announcement on Thursday 10^th. 

Has the market gone too long of EUR-USD? And is this the start of a turn-around for the plucky euro?

Edward Knox

Analyst

Caxton FX



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

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Dollar weakness, but for how long?

The start of 2011 has seen the US dollar loosen its stranglehold over both the pound and the euro. Both currencies are continuing to rally strongly in spite of the fragile economic conditions still seen within both camps.

We have seen gains for the Euro and the pound of around 3% and 4% respectively since the beginning of this year, but how long can this dollar weakness last?

The main driving force behind the movement has been the diverging policy stance seen between the Fed and its counterparts across the Pond.  

The Fed has reiterated its desire to keep interest rates low for an “extended period”, alluding to the fact that, despite some decent economic growth (2.9% in 2010), it will continue to keep monetary policy loose in order to stimulate growth and absorb the chronic levels of unemployment.

By contrast there is speculation that both the ECB and BoE could move to tighten policy (ie raise interest rates) in order to curb inflationary pressures. Such a move is still seen to be some months away, but would doubtless come considerably earlier than in the US, which is bolstering the currencies.

Earlier today, one of the two MPC hawks, Andrew Sentance, suggested that the Bank should act sooner rather than later to retain the Banks' “hard won” credibility by keeping inflation in check, and avoid a sudden and heavier rise of interest rates down the line that would “jolt” the recovery. This policy is beginning to gain further credence, with Sentance sticking to his guns despite recent worries of stagflation.

Similarly, Trichet has recently been hawkish about the prospects of raising interest rates – the market expecting this to come in to effect around September, probably as part of his swansong (his term as ECB President is due to end in October).

With this in mind, coupled with the headlines being oddly devoid of any developments with regards to the eurozone debt crisis, it’s hard to see the dollar reversing its current trend in the short term.

Edward Knox
Analyst
Caxton FX

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

Spotlight on Egypt

With the front pages dominated by news of the crisis in Egypt, it’s hard to escape the chaos that has brought the country to a virtual standstill.

Protestors demonstrating against corruption, elevated inflation, chronic unemployment and a lack of democracy are currently exorcising their democratic right, which has been thwarted for too long by Murbaraks 30-year dictatorship.

Their frustrations have come to the fore, with the disruption spilling over to a seventh day – the impact understandably having an effect on the global markets (something I’m sure the demonstrators, quite rightly, aren’t that concerned about).

A by-product of this political turmoil has been for Moody’s to downgrade Egypt’s government bond ratings to Ba2 from Ba1, and changing their outlook from stable to negative. In the currency markets, the Egyptian pound has also taken a hammering sinking to a four and a half year low against the safe-haven dollar, with the Turkish Lira and Israeli Shekel among the other currencies under selling pressure due to their relative proximity to the disorder.

The classic safe havens of gold, oil and the US dollar were the immediate beneficiaries of this crisis, with traders pulling out of riskier stocks whilst keeping a watchful eye on these uncertain times - hoping the seeds of discontent aren’t sewn too close to the oil exporter counties of the Middle East, and the Suez canal – an artery responsible for the shipment of around a million barrels of crude and refined oil a day. Indeed oil has already climbed back to within a whisker of $100 per barrel and could quickly climb through that level if risks to production manifest themselves.

Uncertain times indeed then. However, perhaps rather surprisingly, the market’s today do seem to be regaining lost ground. The yen, US dollar, and Swiss franc have all given back Friday’s gains suggesting that Egypt’s civil unrest is not yet undermining broader risk appetite. Have we seen an end to this story? I expect not.

Edward Knox
Analyst

US economy accelerates – dollar turn around seen

In contrast to Britain’s laughably poor economic growth figure earlier in the week, data this afternoon has shown that the US economy expanded by an annualised 3.2% in the final three months of 2010. Although the figure is marginally below the median forecast (3.3%), it does reaffirm the improving economic conditions seen in the US at present.

Earlier in the week the Fed stood by its stance to keep interest rates on hold “for an extended period” and I doubt that today’s figure will alter that view in any way. The real thorn in the side for the Fed is the stubbornly high rate of unemployment. Until economic growth starts to bring jobless numbers down we can expect the Fed to stand pat on policy, despite the recent addition of a couple of hawks onto the voting council.

We have seen a slight pickup for the dollar this afternoon. The GDP figure, although solid, is hardly setting the headlines alight and I think traders will probably be content to close up shop early for the weekend without the need to rush into new positions. However, looking to next week I expect that the dollar could begin a steady comeback as the disparity between the strength of the US and UK’s respective recoveries is made evident.

The pound’s been floating around up near $1.60 for the past two weeks, helped in part by a firmer euro and higher interest rate expectations. With those expectations now dashed and the euro looking vulnerable at $1.37, I can see a brighter outlook for the greenback.

Clearly conditions in the US are improving and the markets expect another positive employment change number at the end of next week. Certainly when compared to the snow bitten UK economy and the debt ridden eurozone, the US is looking like an increasingly good bet. And for those investors still looking for a safe-haven, Japan’s credit downgrade has down the yen no favours giving another reason to look out West.

The factors are building in favour of a stronger dollar. One convincing order on the sell side of EUR/USD and the trend will turn.

Duncan Higgins

Senior Analyst – Caxton FX

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

Is this a blip, or the beginnings of a double-dip?

It seems from yesterday's MPC minutes – the meeting to which was crucially held prior to the release of our shock GDP figure - that the balance of power between the hawks and the doves has shifted. The idea of raising interest rates to combat rising inflation - estimates of which reach to 5% by end of the year thanks to the triple whammy of high energy prices, import costs and the VAT rise - is increasingly on the agenda.

The anticipation of raising interest rates was enough to boost sterling at the beginning of the month. However, with negative economic growth, stagflation is fast becoming the new buzzword and any further rally for sterling has been well and truly checked. 

Imagine if you will, if on the 13^th January, the 9 member committee had voted for a quarter point increase in the base rate. Borrowing costs on the rise, just as the word double-dip is reintroduced to every editor trying to flog their paper. Panic? Probably, yes.

To this end King was probably correct in keeping monetary policy loose, at least for now. After all, how is a UK based rate rise going to curb rising fuel and food costs exactly? 

King is walking a very fine line at the moment; keeping interest rates low for too long could inevitably lead to longer term problems for the economy; raising them too early and what little confidence there is in an already weak economy would be eroded.

To be fair, the paper floggers may be jumping on the bandwagon to a certain extent; are we facing a double dip? Not yet, at least not technically – we would need to see 2 quarters of consecutive contraction first. The GDP figure that is causing all this mischief for the pound (as I detailed in my previous blog post) could still be revised up. The weather, the volatile nature of data when emerging from recession, and the fact that the 0.5% figure only accounted for 40% of surveys issued heightens the possibility that the figure will be revised. The second estimate (not due until Feb 25^th) could offer a more uplifting figure for the policy members to get their teeth stuck into. The pound meanwhile hangs in the balance.

Edward Knox

Analyst

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

What next for Sterling?

The MPC meetings minutes were released this morning much, I’m sure, to the embarrassment of policy member Martin Weale who decided to dance to the tune of raising interest rates. He now joins Andrew Sentance – who has been voting for this policy shift for the past 4 months  – and will probably be rethinking his decision after the release of Britain’s shock GDP figure.

Mervyn King meanwhile, smug in the knowledge that he refused to bow to inflationary pressures, used a speech yesterday to defend the Central Banks ultra lose monetary policy in the face of high inflation. He reiterated that the economic recovery would be ‘choppy’ (understatement if ever I saw one), and that real wages would be heading lower. I’d imagine that King’s Speech will not have been received quite as well by the public as its multi Oscar nominated names sake.

The question now is; what will become of the pound if these figures are to be relied on? How much of a toll did the weather take on these preliminary results? After all, the economic impact of the snow is extremely hard to quantify. My feeling is that the figure of -0.5% shouldn’t be taken at face value. Certainly the recovery has been blown off course, but we should wait for the second and final estimates before completely reassessing the situation. The figure is at odds with the PMI (Purchasing Managers’ Index) surveys and the National Statistics Office has been wrong before, notably coming in 0.4% wide of the mark in the final quarter of 2009. A similar revision this time around could well be on the cards.

Nonetheless, the pound must still deal with the dual hangover of weak economic growth and high inflation: ie stagflation. This is not a concept that will rest too comfortably for the pound. Whereas the expectation of higher interest rates gave sterling a boost in the early part of the year, that eventuality has lost all credibility. Indeed, the prospect of such a move from the Bank of England looks about as likely as Andy Gray presenting Woman’s Hour.

With key US announcements due today and Friday, the market should avert its attention from the UK economy at least in the short term. However, any lasting relief for sterling will depend on a fresh wave of eurozone concerns or these lowly €1.15 levels could endure for now.

Edward Knox

Analyst

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

Sterling plummets as economy contracts

There was a shock to the system today, as the pound endured the currency equivalent of falling into an ice cold lake. GDP figures released this morning showed that the British economy contracted by 0.5% in the three months through December.

Although this was a first estimate, the realisation at just how poor these figures were (market forecast was a full percent higher) caused the pound to sink across the board. It fell over 2 cents against the US dollar and a cent over its euro neighbour in just a matter of minutes.

With Johnson out, the incumbent Shadow Chancellor Ed Balls will be smacking his lips at the prospect of getting stuck into Tory manifesto, hounding Cameron and Osborne for “complacently congratulating themselves” for securing the economic recovery back in the Autumn and urging the government to pause and "rethink" its deficit-reduction strategy.

Indeed it appears the back slaps may have been a little hasty. With the economic recovery grinding to a halt, arguments for an interest rate rise will surely have gone into full retreat. Adam Posen is another man who probably wore a wry smile on his face today. His dovish stance is likely to have attracted some followers among the MPC members, although an accompanying vote for QE is less likely with inflation as high as it is.

The question is, just how much will this new data affect policymaker’s decisions? It’s worth noting, however excitable/nervous the market gets over this figure, it’s only estimated data - I’m not expecting the Bank of England to fully reassess the strength of Britain’s economic recovery at this stage. We did also see a staggeringly bleak December weather-wise, and history tells us that the UK isn’t overly competent in the snow. How much did this adverse weather affect our growth? Osborne, understandably, thinks a lot.

What this data has done is to mark a substantial step back for Britain, and it could force downward revisions to both 2011 and 2012 growth forecasts. Sterling’s forecasted turnaround in trend against the euro also looks to have taken a step back. So the question now is just how long will this hangover last?

Duncan Higgins

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