The UK economy has had a poor start to 2016. Evidently it hasn’t felt the recuperative effects of ‘dry January’ as the herbal tea drinking, virtuous and irreproachable, gym joining, fad dieting, no carbohydrate eating masses have. The question is; will the masses be able to continue their new found regime and will the UK economy improve its ill health?
Sterling fell dramatically against both the Euro and the US Dollar in January as can be seen from the graphs below –
After the sharp decline lower we had a retracement higher on GBP/EUR from the 1.28s back into the 1.32s although I am not entirely convinced we’re going to see a sustained break higher. I still feel, even after the heavy losses Sterling has suffered, that we’ll see further downside pressure on the pound. GBP/USD has had a similar story to GBP/EUR.
The 2016 growth figure for the UK is expected to be around 2.3%; down from the 2.5% projection given a few months ago. This follows on from downward revisions from the Office for National Statistics over the past few months. Thursday is going to be an extremely important day for the UK this week. We have the first assessment of the UK and global outlook since the US Federal Reserve raised rates with ‘Super Thursday’ as it is now known. The Bank of England’s Quarterly Inflation report is going to be keenly awaited by the markets. My guess is that growth and inflation forecasts will be cut by the Bank of England and it will signal that interest rates are going to stay low for a considerable amount of time with global risks far from receding anytime soon. Is the UK recovery running out of steam? Does it need a boost akin to what Lance Armstrong had in his Lucozade during the Tour De France?
We had an interesting development from the Bank of Japan on Friday. They cut interest rates and pushed them into negative territory. Central Banks still have room to manoeuvre it seems. What do negative interest rates do? Well, the Japanese are hoping they boost activity and increase inflation to counter the economic stagnation they’re currently experiencing. Negative rates encourage Commercial Banks to use up their reserves to lend to businesses. In effect, banks are charged for depositing and holding funds with the Central Bank. The Eurozone currently have negative interest rates to counter the prospect of deflation and falling prices. What is the Bank of Japans inflation target rate? It’s 2%. What is the UK’s inflation target rate? It’s 2%. We have all been discussing when rates will be raised. It is expected to be in 2017 now. Is it conceivable that if global headwinds continue and plunging oil prices push down inflation and growth forecasts in the UK further, then a rate cut may be required? It is unlikely but it is possible.
This all adds to the uncertainty on Sterling for me. In addition to the oil price fluctuations, inflation and deflation, growth forecasts, revisions upwards and downwards, interest rate rises or cuts, the potential referendum is likely to be the main political event of 2016 that could cause the most movement in currencies.
What should you do with all this potential for volatility? Have a strategy in place, mitigate a large percentage of your risk by covering off your exposure on SPOT and Forward contracts and leave yourself with some upside potential by utilising market orders.
If you are a EUR buyer or EUR seller please contact myself or one of the trading team to implement and execute orders at appropriate levels.
This will be an important week for GBP/USD. In addition to ‘Super Thursday’ we also have Non-Farm payrolls released from the US. Could we potentially see below 1.40? It is a distinct possibility. Are you a USD buyer from Sterling? Please do contact a member of the Aston team to put a strategy in place to protect you from downside risk. If you are USD seller you are already at 5 year highs so it may be prudent to cover off a sizeable portion of your exposure at current levels. If you would like a SPOT price please contact myself or one of the Aston trading team.
Have a great week.
Written by Liam Alexander.