02 March 2020: Sterling suffering as rate cut likely

Sterling suffering as rate cut likely

02nd March: Highlights

  • Sterling drifts lower as safety bids prevail
  • Rate cut expectations hit dollar
  • German data offsets Coronavirus fears

Current account deficit leaves GBP vulnerable

The pound fell to a 2020 low on Friday as it reached 1.2725, a level not seen since last October as there is a heightened risk consideration now attached to the currency.

On Friday, there was very little Sterling specific data as the pound reacted to global risk appetite.

This week will be a crucial week for both economic data and concerns over the Coronavirus outbreak leading to a major fall last week.

Data for manufacturing output will be released later this morning and it is expected that activity will be unchanged from last month’s 51.9. While that points to a positive Q1 GDP, the effects of the virus are likely to attract the attention of the MPC and lead to a serious conversation concerning an interest rate cut.

Last week the pound traded between 1.3018 and 1.2725 as volatility increased. The pound is breaking several support levels but for now 1.2720 provides a moderate degree of support.

Longer term, and if there is a long-term global Coronavirus epidemic, Sterling is likely to remain in a shallow downwards channel as the economy suffers due to the lack of fall back positions on global trade and with Coronavirus affecting negotiations, the timetable may need to be reconsidered.

With Brexit considerations in the background, relations with the EU will be crucial to both London and Brussels.

With budget imminent, attention will turn to just how expansive the Chancellor is able to be in his spending plans. The speed with which the entire situation has changed is incredible, with considerations of an austerity busting budget and the BoE leaving rates on hold replaced by a far more moderate budget and (almost) emergency rate cuts being considered.

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When will recovery begin?

This week’s employment report will climax a week in which the dollar will be reactive to data, political considerations and, of course, the Coronavirus. The first death on American soil occurred over the weekend and there are sure to be others despite President Trump’s assertion that the economy won’t be overly affected.

Data to be released this week includes; manufacturing activity and construction spending later today, services and non-manufacturing industrial activity, Challenger (private sector) jobs data and then on Friday, the much-anticipated employment report.

Activity may be affected by Coronavirus, but it is expected to be too soon to see the full effect. Manufacturing is predicted to fall from 50.9 to 50.5 still expanding, but only just and traders will be concerned that next month will fall into contraction.

The headline non-farm payroll should still be strong with latest estimates predicting that around 175k new jobs were created. Hourly earnings are expected to have risen by 3.2% following a 3.1% rise in January. This will concern the Fed given the inflationary aspect and the fact that the Fed is considering starting to cut rates following the effect on growth of the Coronavirus outbreak

The market has now turned its attention to the FOMC meeting that will take place in a couple of weeks. Futures markets are predicting that if rates are cut, it will be the first of three in the coming months.

The dollar index accelerated away from the 100 level as the week wore on. Gone are the confident expectations of above average growth and comparative advantage over the U. S’s trading partners.

It fell to a low of 97.96, closing at 98.06.

Recession clouds are starting to gather

Despite better than expected data from Germany last week, it looks a lot like too little too late. The German Finance Minister’s bid to change the constitution to allow budget deficits to be funded outside the country may be needed to prop up the ailing economy rather than just to allow regions to settle debts.

The entire Eurozone has suffered from a long and continuing downturn with increasingly desperate hopes that the German economy would turn around sufficiently to provide the stimulus needed to allow the entire region to recover gradually.

Confidence indexes, while not getting too far ahead of themselves have been relatively positive but the advent of Coronavirus means that the economy will almost certainly fall into recession. But despite the claims made by Mario Draghi when he was ECB President that should the economy contract that it would be a short sharp shock, it looks far more likely to be a long painful experience.

ironically, to make matters worse as risk appetite has fallen globally and the dollar has suffered, the euro has gained bringing to the fore the nightmare scenario of a weak economy falling into recession and a strengthening currency. The former methods of weaker economies with high debt piles devaluing their way out of trouble are long gone.

This week, manufacturing activity data is released. It is expected to remain in contraction, unchanged at 49.1.

Inflation data is due for release on Tuesday with the headline likely to have fallen from 1.4% to 1.2%.

Services and composite activity are both expected to remain in expansive territory but to have fallen back a little. It will be the next set of activity numbers that will cause the biggest concern.

Last week, the euro rallied to a high of 1.1053 and closed at 1.1037. It is hard to say how long it will be until selling pressure returns but it looks unsustainable at these levels.

Have a great day!
About Alan Hill

Alan has been involved in the FX market for more than 25 years and brings a wealth of experience to his content. His knowledge has been gained while trading through some of the most volatile periods of recent history. His commentary relies on an understanding of past events and how they will affect future market performance.”