12 Mar 2019: Sterling rallies as Brexit changes agreed

Sterling rallies as Brexit changes agreed

March 12th: Highlights

  • Parliament set to vote following “legally binding” changes
  • Inflation data to add to the Fed’s patient stance
  • German industrial production data signals a deeper slowdown

Has May done enough to secure Parliamentary agreement?

Theresa May, the UK Prime Minister, returned from a meeting in Strasbourg last evening heralding changes she has secured to the UK’s Brexit Withdrawal Agreement.

She claims that the concessions she has achieved in discussions with EU Commission President Jean-Claude Juncker are the “legally-binding “changes required by MP’s to convince them to approve her deal.

It remains to be seen if MPs are sufficiently satisfied, since Opposition Leader Jeremy Corbyn has already commented that the amendments are “not anything approaching” what she has promised.

The financial markets are seemingly far more attuned to the risk of a positive outcome as bad news has been pretty much priced into the value of the pound. It rallied yesterday from a low of 1.2960 versus the dollar to a high of 1.3171 and has continued to climb overnight, reaching a high of 1.3290. Its current level (05.30GMT) is 1.3252. The pound also reached a new multi-year high versus the euro, reaching 1.1796.

The rise in the currency is highly tenuous and as reaction continues to be seen during the day, it could easily collapse should the air of optimism dissipate. The only thing that is certain today that as uncertainty continues, it is likely that it will be a volatile day.

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Dollar index in “no man’s land”

The dollar index has reached a level where it has every piece of positive news built into its price and it is now in danger of a correction as global sentiment starts to allow appetite for riskier assets to improve.

The pause in the Fed’s rate cycle is fully understood by the market and Friday’s disappointing headline NFP figure, while it won’t have any major bearing on the FOMC’s position, will provide a seed of the possibility that the next move by the fed could be a cut in rates.

It is impossible to apply historical reasoning to the level of official short-term rates in the U.S. given the level of quantitative easing that took place and the Fed’s desire to reduce the size of its balance sheet.

Fed Chairman Jerome Powell is very aware that the margins have been narrowed considerably where changes to official rates are concerned. In the past, increments of fifty basis points were the norm but latterly Central Banks switched to twenty-five. This little and often scenario is designed to give more control but it has simply added greater scrutiny to Central Bank thinking, particularly the Fed, which tends to be the “pace-setter” when it comes to changes to official rates.

Today sees the release of inflation data in the US. While the consumer price index is the market’s favoured measure of inflation, it is the broader personal consumption expenditures which the Fed follows.

Market use of CPI provides it with a better understanding of historical levels and it is still the “official” barometer that the Fed is supposed to adhere to. It is expected that inflation will remain just above the 2% level the Central Bank strives to achieve.

Yesterday the dollar index was in a narrow range between 97.45 and 97.16. It closed at 97.17 and has continued to correct lower overnight.

German data points to further economic weakness

Data released yesterday for industrial production in Germany was significantly weaker than analysts had expected. It showed that activity fell by 0.8% in January following an upwardly revised rise of 0.8% in December. This meant that year on year, industrial production in Germany has fallen by 3.3%.

While the ECB continues to be apparently unconcerned over individual countries data this cannot be seen as anything other than a precursor of a longer and deeper slowdown and will require more action than simply battening down the hatches and hoping for the best.

The euro is clearly a victim of a global economic slowdown and much depends on activity in China which is fast replacing the U.S. as the major barometer of global activity. The relationship between China and the U.S. which has been in focus recently is unlikely to ever be smooth as the two compete on so many fronts and are very aware of each other’s goals.

The majority of the Eurozone members are struggling with debt “mountains” and it is doubtful that the ECB providing more favourable lending conditions is going to do anything other than exacerbate the issue further down the road.

Germany, which is clearly about to enter a recession, is in an impossible position. Traditionally highly conservative in economic policy and hawkish over inflation, it may have to be seen to change its outlook almost entirely as it is clear that the imposition of austerity on traditionally expansive nations simply is not working.

It remains to be seen if Germany is prepared to make sacrifices for the greater good but until countries like Italy are freed from the shackles of budgetary restraints the economies either individually or collectively will find growth hard to come by.

The single currency rallied versus a weaker dollar yesterday, reaching a high of 1.1258 and closing at 1.1244.

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.”