28 February 2020: UK’s trade stance adds to concerns

UK’s trade stance adds to concerns

28th February: Highlights

  • Johnson’s hard-line drives Sterling lower
  • Markets considering Fed rate cut
  • Virus outbreak adds to economic woes

Plenty of downside concerns for UK

The pound remains under pressure as it contends with several negative issues. The Government yesterday increased the pressure on Brussels over a comprehensive trade deal by announcing in the House of Commons that if there has not been significant progress in talks by the end of June they will consider walking away with no deal then. If they decide that it will be impossible to reach a deal by the end of the year, then they see little point in continuing fruitless talks that won’t be able to be concluded within their self-imposed deadline.

The hard-line being adopted in Westminster saw the pound fall to a five-week low versus the single currency and maintain its recent losses versus the dollar. Michael Gove, a senior minister and ally of Prime Minister Boris Johnson said that the UK would not trade away its sovereignty chasing a deal with Brussels. By far the biggest remaining concern would be loss of access to Europe’s financial services market where deals and activity in banking insurance and asset management would be seriously affected.

Global Central Banks are facing a situation not dissimilar to the 2008 financial crisis as the Coronavirus epidemic continues to drive financial markets lower. There was speculation yesterday that the effect on global growth from a pandemic could equal or even exceed that seen in 2008.

The effect of any comment from the MPC on a cut in rates sooner rather than later, is sure to have a negative effect on Sterling as one of the pillars upon which recent gains were based was the MPC’s reluctance to cut rates recently.

Yesterday, the pound fell to a low of 1.2860, closing at 1.2890 versus the dollar, while against the euro, it fell to 1.1706, closing at 1.1726,

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Will the Fed signal a rate cut?

The FOMC meets on March 17 and 18 and there will be serious discussion regarding the need for a cut in rates should the effect on the global economy and any knock-on effect in the U.S. gain momentum.

Currently, the U.S. remains reasonably well protected despite the first case of community spread. This term is used when cases are discovered where the source of the infection is unknown. This is potentially a serious escalation and could lead to major isolations with the consequent effect on the economy.

Next week’s employment report may give the first indication of any effect and expectations for the headline NFP report have been lowered, with the current prediction of around 175k new jobs.

Futures markets now predict an almost certain cut in rates next week where a week ago there was only a 9% chance.

Looking further ahead, futures no predict three cuts by mid-year. The degree of comfort the market had in a strong dollar and the reasons for it have been shattered as the seriousness of the Coronavirus epidemic takes hold.

Traders are questioning the ability of the economy to power on with yields attractive and the stock market making seemingly continuous record highs.

Yesterday, the dollar fell to its lowest level in three weeks and headed for its biggest weekly fall since last June. It fell to a low of 1.1005, closing at 1.0993 versus the euro. It has continued to fall overnight although there is no suggestion of widespread divestment of long dollar positions.

The dollar index suffered an overall fall, reaching 98.36, closing at 98.42. It is odd how the market found a way to reject any attempt at the 100 level which appear certain just a week or so ago

France & Germany watching Italy with concern

A strengthening currency and weakening economy are not the recipes the ECB would have been expecting to face in the early part of 2020. While the euro’s fall had been wholly predictable and looked set to continue well into the second quarter, the dollar’s global presence and its inability to withstand the spread of Coronavirus means that the single currency managed to regain, albeit briefly, the 1.10 level versus the dollar yesterday.

This is, of course a dollar story, but its effect on the eurozone should it continue could add to the economic slowdown and cap any thought of a rise in inflation.

While domestic consumption and demand remain weak the benefit of a single currency is negated but the already weak export position of the region is threatened further.

With talks with London about to start and the British Government making ominous demands, a rise for the euro versus the pound is also most unwelcome.

The risks of Coronavirus were quite high given the Eurozone’s trading relationship with China but the latest outbreak in Italy has France and Germany looking on with concern.

If the community spread takes hold in the Eurozone, it could envelop the entire region very quickly from the current relatively small epicentre in Northern Italy.

France, Germany and Italy make up around half of the entire region’s GDP so any spread through these three countries could see a contraction in Q1, particularly given the disappointing activity data already seen.

Yesterday the euro rose to a high of 1.1005 versus the dollar, closing at 1.0993

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.”