Daily Market Brief 23 March 2018

Pace of Rate Hikes Hits Pound

March 23rd: Highlights

  • Normalization of rates to be “gradual”
  • Dollar falls on Trade war fears
  • Data shows a slowing Eurozone economy

Sterling news turns Mixed

At the end of what had looked like an overwhelmingly positive week for Sterling, the Bank of England’s Monetary Policy Committee, while not exactly pouring cold water on rate expectations, injected a degree of realism into the future path for monetary policy.

Future interest rate hikes will be gradual and data dependent according to the MPC. Given this week’s fall in inflation and rise in incomes, they will need to be convinced and the March data will now take on far greater significance.

In a mirroring of the price action following the FOMC meeting, Sterling fell following the press conference although it remains above support at 1.4080 having tested that level. It reached a low of 1.4076 before recovering a little to close at 1.4097. The pound will consolidate its week’s gains today as the EU Summit ratifies the agreement between London and Brussels over the 21-month transition period that will begin once the UK officially leaves the EU on 31st March next year.

In her speech to the Heads of Government last evening, British Prime Minister, Theresa May continually referred to the “Northern Ireland issue” rather than the “Irish border issue” perhaps confirming that there has been an agreement that will affect the province as part of the transition agreement.

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Trade war fears continue to simmer

President Trump Is determined to “tug the tiger’s tail” as he continues to criticize the Chinese for its huge trade surplus with the United States. Yesterday he introduced further measures, contained in a Presidential Memorandum designed, in his view, to “level the playing field. What his actions did manage to do was create an atmosphere of risk aversion in the markets which saw the JPY rise to levels not seen since 2016.

Countries like Japan and Switzerland who have large trade surpluses tend to see their currencies rise during times of risk aversion as they are safe havens.

The dollar, similarly to Sterling, is having a mixed week despite the interest rate being hiked by the FOMC earlier. The virtual confirmation of the three hike strategies for 2018 and 2019 have driven a more neutral bias even though other G7 economies will have a considerable negative interest rate differential by the end of next year.

The dollar index remains close to its long-term support at 88.40 having made a low of 89.40 yesterday, its lowest level in two weeks. It subsequently recovered a little but has been under pressure again in Asia overnight.

Euro falls as data shows economy slowing

It is very difficult to analyse data coming from the Eurozone as firstly there is very little precedent and second given that nineteen contributors each have their own fiscal policies the effect can sometimes be distorting.

Considering that the single currency has been in existence less than twenty years and during that time has suffered the massive upheaval caused by the financial crisis, analysts have “very little to go on” to decide what is weak or strong in the data. The classic example of this is the employment data which is running at around 9%. The question remains, “is there room for improvement or is this to be considered close to full employment”. Wage inflation begs similar questions.

Interpretation of the data is left to the ECB who given inflation and growth statistics appear to be handling the economy conservatively but in accordance with the wishes of the European Commission.

Another factor is the fact that the Eurozone only has a semi- centralized form of control where fiscal matters, e.g. taxation, are handled at the local level while monetary policy is designed for the entire region.

Yesterday’s release of activity indexes showed that activity in both services and manufacturing slowed in February. Manufacturing was more severely hit than services. The Euro fell to a low of 1.2285 as traders saw this, if continued, as a signal that rates will stay low longer.

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.”