Daily Market Brief 12 February 2018

Brexit Transition Threat Hits Pound

February 12th: Highlights

  • UK has “substantial objections” to Brussels offer
  • Sterling retraces MPC gains
  • Eurozone data to provide fresh impetus to single currency

Barnier comments drive Brexit reality check

The reality of the difficulties facing the country as a Brexit transition deal is negotiated were perfectly illustrated by comments from EU Chief Negotiator Michel Barnier on Friday. Without detailing the EU’s offer, Barnier said that the UK has “substantial objections” to the terms that are being offered and that a transition period was “not a given”.

The negotiation of the Brexit deal, of which the transition period is second stage, is driving issues across the entire UK political and economic arena. The UK is not keeping pace with other G7 nations’ economies and is in danger of missing out on the expansion that is taking place as the global economy finally emerges from the shadow of the financial crisis. Politically, there are constant rumours of the replacement of the Prime Minister following a disastrous 2017 in which she gambled the Government’s majority and lost and capitulated to the EU’s demands to ensure the passage of stage one of negotiations.

The pound fell to a low of 1.3764 versus the dollar but has rallied a little as the Asian week has commenced. Versus the single currency, the pound had a rollercoaster of a week, once again trading above 1.1400 as rate optimism took hold then falling to a low of 1.1224 before closing at .1295.

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MPC comments to be tested by inflation data

Following its rally on Thursday after an out of proportion response to the Bank of England’s slightly more hawkish vision of future UK monetary policy, the ability of Central Banks to drive their currency to unrealistic levels was perfectly illustrated. This week the market has the chance to see macroeconomic evidence on the UK economy rather than reacting to anecdotal comments attempting to jawbone the currency higher.

The inflation report is due for release tomorrow and will show that inflation has fallen in reaction to the stronger pound and November’s rate hike. A 2.9% headline reading will dampen enthusiasm for a May rate hike the chances of which are as high as 60% according to the interest rate futures market.

Later in the week, on Friday, the retail sales data for January will be released. These are likely to show an improvement on Decembers 1.5% fall but on a year on year basis will continue the recent fall engendered by the rate hike and negative real wage growth. Further currency volatility is to be expected given the number of drivers facing the FX market. The pound has strong support at 1.3720 and 1.1080 and any approach to those levels is likely to attract buyers.

Dollar index recovery continues as risk appetite falls

Last week’s correction in the dollar index coincided with a drop in risk appetite as equity markets reacted to the presumed end of “cheap money” with G7 Central Banks likely to start to raise interest rates in response to global growth expectations.

The US employment report was the catalyst for the correction with wage growth exceeding all expectations. The February, report due in a couple of weeks, will be heavily scrutinized, first for any revision in the January figure and then to see if there is a continuation of the trend. Meanwhile the dollar continues to benefit from a “flight to safely” always associated with a reduction in global risk appetite.

The JPY and CHF are also beneficiaries of this trend as they have huge trade surpluses and see a repatriation of wealth during such times.

The single currency has fallen as part of this correction. It has tested support at 1.2200 and is attempting to rally back above 1.2280. This week sees the release of inflation data from Germany, as well as Q4 growth data for the entire region. Inflation in Germany has remained modest despite the upturn in productivity and consumption. An unchanged 1.4% is expected which will draw sighs of relief from the ECB. The growth data is expected to show that the region’s economy grew by 2.7% in the fourth quarter up from 2.6%.

This week’s events of note

A Holiday shortened week with no major data releases

  • No significant data releases although there will be reaction to the weekend press about Brexit and UK monetary policy:

  • UK: Inflation data – A fall to 2.9% in YoY to January could precipitate a correction for Sterling

  • Eurozone: German Inflation – A benign 1.4% expected. Anything above 1.5% would have the Bundesbank calling for a rate hike
  • Eurozone: German GDP – A healthy 2.4% expected for Q4
  • Eurozone: GDP – A rise to 2.7% from 2.6% to confirm stability of economy
  • U.S.: Retail sales – a 0.5% increase will show consumers still supporting economy

  • Eurozone: Greek inflation – At the other end of the growth scale from Germany, Greece one of the weaker economies coping with a strong currency well.
  • U.S.: Industrial Production – A slight fall expected from a strong December number show overall growth rising.

  • UK: Retail Sales – A fall from December’s surprisingly strong data should still show consumer supporting the economy. Anything above 0.5% acceptable

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.”