Sterling Rallies as Brexit Transition Agreed

Barnier hints at tough negotiations to come

Sterling rallied through the major resistance at 1.4000 versus the dollar yesterday as the UK and EU confirmed an agreement has been reached over the terms of the transition period following the UK’s departure from the EU in March next year.

Commentators agreed that there have been compromises on both sides, but the UK has given up far more ground than the EU in a repeat of the stage one agreement reached last December.

The transition will end of 31st December 2020. Michel Barnier the Chief EU Negotiator commented that a step forward is encouraging but there are still tough decisions to be made.

The UK will continue to pay into the EU budget until December 2020 and will have to abide by EU rules but will have no say in new rules that are agreed.

This lopsided agreement was well received by the market which drove Sterling higher and through long-term resistance levels. It reached a high of 1.4089 versus the dollar although it retraced to close at 1.4024.

Inflation data will be released later today with most analysts expecting the headline to have fallen to 2.8% which may produce a less hawkish statement from the MPC which meets on Thursday.

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ECB to provide advance guidance on Monetary Policy

There is speculation growing that the European Central Bank’s Governing council is considering the withdrawal of the Asset Purchase Scheme and tightening monetary policy in mid-2019.

A report from the Reuters news agency suggested that there is already discussion about the path of interest rate rises once the first hike takes place. Given the expectations for inflation in the region and how benign price rises have been it is unlikely that there will be a “rush to normalization” similar to what is happening in the U.S.

That conjecture provided support for the single currency yesterday despite it being contrary to the comments of President Mario Draghi last week when he said that monetary policy would remain “patient persistent and prudent”. The reason for yesterday’s rally for the single currency may be rooted elsewhere since the objective evidence barely backs a rate hike particularly given Sr. Draghi’s dovish standpoint.

The single currency reached 1.2359 against the Dollar and has remained firm overnight. Versus a rising pound, the Euro lost ground initially as the transition announcement was made with the pound making a high of 1.1435 but it quickly recovered its composure closing at 1.1369, although the pound has remained firm overnight.

FOMC to hike rates; then what?

It is a well-known trait of the FX market that traders “buy the rumour and sell the fact”. Roughly translated into the currency market movements it means that it is probable that the dollar will lose ground following the almost certain announcement of a rate hike from the Federal Reserve this week since. Traders will immediately start searching for the next positive driver.

Jay Powell the Chairman of the Fed. will attend his first post-meeting press conference and a lot will depend on his words but also his demeanour. There will be speculation about just how comfortable he will be trusting to models and speculation about the future path of inflation and therefore interest rates.

The dollar index fell yesterday reaching a low of 89.76 as news of a possible change in ECB policy was considered a “bigger draw” than yet another rate hike from the Fed.

The dollar is struggling to remain above the support that has developed over several weeks at 89.30 as a series of headwinds continue to provide resistance.
Greece and Cyprus are growing but their public finances are still a mess.

Powell’s first press conference should set the medium-term tone for the dollar and he is likely to be forthright in his delivery but keen to make his own mark on the job.