19 Nov 2018: May and Sterling on the Brink

May and Sterling on the Brink

November 19th: Highlights

  • A make or break week for Brexit and the PM begins
  • Global concerns to slow dollar rally?
  • Italy, economy and rise of nationalism to limit euro rally

Prime Minister determined to sell her agreement

Years ago, there was a joke that nothing was harder to sell than a second-hand Skoda. Obviously, things have changed in more recent times in two ways, Skoda now produces very desirable cars and even more recently, the “unsellable” mantle has been taken over by the Brexit agreement.

Despite last week’s tempestuous reaction to the publication of the agreement, the Prime Minister is soldiering on with various comments about it being the “best deal for the country” and “the agreement satisfies the ‘people’s Brexit demands’”. Neither of those comments is likely to be proven to be either true or correct as the storm clouds continue to gather over Westminster.

Letters of no confidence, while not exactly flooding into the office of the Chairman of the 1922 committee, must be coming close to the 48 required to trigger a vote on Mrs. May’s future. The maneuverings have already begun from those with leadership aspirations. There is a seemingly endless line of prospective candidates.

While this week will not see any conclusion to the Brexit debate, it may well bring some clarity into who from the Government will be in command when decisions are made.

The pound faces another roller coaster ride as rumour and fact become more entwined and less able to be discerned one from the other.

On Friday, Sterling rallied as profit taking on short-term positions followed a failure to break the 1.2700 level versus the dollar. So far in early Asian trading, it has barely moved away from its Friday close of 1.2827.

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FOMC members getting cold feet over rate hikes

Jerome Powell, the Chairman of the Federal Reserve, has been almost uniformly bullish about the prospects for the U.S. economy and far more hawkish over interest rates than anyone expected him to be. Since he took over the role from Janet Yellen in February of this year, his legal background was supposed to bring more considered judgments allowing the facts to speak for themselves. While the economy has grown at a faster pace than any of its G7 counterparts, Mr. Powell has strived to remain “ahead of the curve”. Given this air of bullishness, it has surprised the market that he has now started to act more cautiously over the prospect for further kikes in 2019 as the economy faces what Powell calls “potential headwinds”

There are doubts beginning to grow that the Fed will continue its path towards a normalization of interest rates. In a recent speech, Powell cited three “headwinds” facing the economy; the fading effect of fiscal stimulus, slowing demand from overseas and the lagged effect of previous rate hikes.

This continued the theme of other members of the FOMC who have been voicing concerns that the Fed has barely considered a “wait and see” period that has been usual in the past, waiting to see the effect of previous hikes before pressing on with more. The widely expected hike next month will be the fourth this year. The median expectation for 2019 has dropped from three in September two now. The dollar index corrected further on Friday reaching a low of 96.40 and closing close to that level.

Euro rangebound as Italian stalemate continues

Just as the pound reached a low recently that was “too low” to risk further selling, the single currency followed suit on Friday as the 1.1230 level provided support. There has been no “light at the end of the tunnel” as far as the euro is concerned and the “Italian issue” has, if anything, broadened into a greater threat to the Eurozone.

The euro rallied to 1.1421 on Friday as the dollar index continued its recent correction. It has opened and stayed close to that level in Asia this morning.

Contagion is now the biggest concern to the market. If there is any sign that the spread between certain other nations with significant concerns over Government debts bonds and those of Germany widens further, the single currency could easily plummet.

Were that to happen, the ECB may be faced with the prospect of having to halt and possibly even reverse the reduction of its Asset Purchase Scheme.

Luigi di Maio is considered to be the junior of the two Deputy Prime Minister’s since his Party “Five Star” doesn’t command the support of its coalition partner Northern League headed by Matteo Salvini.

Di Maio appeared to be a little conciliatory towards Brussels in comments made over the weekend. He said that Italy is ready to make meaningful cuts in “wasteful” spending and only worthwhile social projects are being considered”, and that “eventually, they would be ready to include clauses in the budget that safeguard against the deficit widening”. This hardly constitutes a thaw in the icy relationship between Rome and Brussels but it could be a sign that a full-blown crisis can be avoided.

Last week’s data releases in Germany could be a more significant long-term concern for the ECB. It is well publicized that they do not intend any change in monetary policy until next Autumn., but they could be faced with a dilemma should region-wise growth data follow Germany into a slowdown. With rising inflation, there is the prospect of calls for a rate hike despite a shrinking economy.

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.”