Daily Market Brief 21 May 2018

Sterling slide continues

May 21st: Highlights

  • Brexit, rates and data each fuelling bearish sentiment
  • Dollar rally continues as Mnuchin declares trade war “on hold”
  • Brussels awaits Italian demands

Pound Pressured from all sides

The pound fell to within five pips of its 2018 low on Friday as traders continued to show concern about the proposals that the UK Government will present to Brussels over Brexit and the withdrawal of monetary policy support as they come to terms with the probability that there will no more rate hikes this year.

On the data front, the pound will be dominated this week by Wednesday’s release of the inflation report for April. It may be too early for the pound’s recent precipitous fall to have had any effect on prices, but the market will understand the rise in inflation that will bring is still to come.

Predictions are for core inflation to have fallen further to 2.3% following March’s surprise fall to 2.5%. This will be a double-edged sword as the rate moves close to the Government’s 2.00% target.

It will push any change in monetary policy further down the road but will also provide positive news for wages as the gap between prices and salaries widens.

The pound made a low of 1.3455 on Friday but has fallen further overnight making a fresh low of 1.3426.

The market awaits the announcement, promised for early next month, of the Government’s final proposals for the future relationship between the UK and the EU. These will have to be acceptable to the entire EU and will be particularly scrutinized for how the issue of the border between the UK and the Republic of Ireland will be resolved.

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Positive talks on trade push dollar higher

President Trump is sure to hail the talks between the U.S. and China over U.S. trade policy as a success despite Treasury Secretary Steve Mnuchin and his Chinese counterparts stating over the weekend that the trade war has merely been placed on hold.

Mnuchin’s comments were sufficient for fears of a full-blown trade war between the world’s two largest economies to have been “kicked down the road”. Threat and counter threat has ultimately led to an impasse as the realization that the two countries need each other from a trade perspective even without considering the US’s need for China to continue to buy its Government debt.

The dollar index has finally managed to break the strong resistance at 93.50 reaching a high of 93.89 overnight, its highest level since last December.

It is a matter of conjecture whether the dollar continues to rise on its own merits or if it is driven by the weakness of the components of the basket. Both direct and indirect drivers seem to be contributing which means that should one fade as we saw recently with the foreign policy setbacks for President Trump in Jerusalem and North Korea, the fact that the pound and, in particular, the single currency remain under pressure has allowed any correction to be shallow.

Brussels fears the worst from Rome

The interminable wait for the Italian Government to be finally formed and agreed goes on as the coalition between Five Star and League awaits formal confirmation. In typical fashion it is the minor details that are being blown out of proposition although the election of a Prime Minister is the major sticking point.

The fall in the value of the Euro which now almost matches that of Sterling will start to bring concerns to the Bundesbank which has been quite vocal in it demands for an early end to the additional accommodation and an agreement of a path for future interest rate rises. The “traditional” concern of Germany over inflation remains in place despite the entirely new paradigm which drives the economy of the wider Eurozone.

Mario Draghi, the ECB President has remained stoic as the value of the Euro has fallen preferring to see the benefit to the weaker nations and their ability to export rather than the inflationary concerns of the larger more powerful members of the bloc.

The euro fell to 1.1750 on Friday and in common with other constituents of the dollar index has continued to fall overnight. It has made a fresh know of 1.1744 but could receive a little support once the Italian Government is finally settled as any radical proposals will take a few weeks to crystalize.

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.”