by Jon Beddell
Foreign Currency Market Update – GBP / CAD Update
Markets greeted the UK’s emergency budget with relief last week, bidding up the value of sterling as fears of a credit downgrade receded in light of positive initial comments by ratings agencies and economists. While making cuts that may dent economic activity, the new government also produced a set of modest 5 year growth projections that markets can believe in, and a plan to reduce borrowing from 10% of GDP to 1% over the same period. That the budget was not as bitter a pill as many expected did not dent the general perception that the government is taking action to address the deficit and by doing so putting the pound on more credible footing and preserve the UK’s all important AAA credit rating.
Last week’s Bank of England minutes showed that one of the nine member committee that sets interest rates actually voted to increase rates by 0.25% at the June meeting. Andrew Sentance was alone in wanting to raise rates, but it still gave markets the feeling that rates in the UK may go up in the foreseeable future, and that helped sentiment toward the pound.
Plunging stock markets have triggered a so called “flight to quality” among nervous investors over the last few days. Traders are selling out of higher yielding (and higher risk!) currencies and instead putting their funds into the relative safety of the US dollar and the Yen. What’s interesting is that this phenomenon usually dents currencies like the Australian dollar and South African Rand which yield 4.5% and 6.5% respectively. This time however, the Canadian dollar is also taking a pounding, falling over 7% against Sterling in the last two weeks. The 4% fall in the gold price yesterday does have a negative impact on CAD, but until then gold had been performing well. More likely investors are taking weak Canadian inflation data as a signal that interest rates there will remain on hold at 0.5% for the foreseeable future following the Bank of Canada’s rate hike on June 1st. The selling of the Canadian dollar intensified after retail sales data for April showed a worse than expected 2% decline.
Sterling has scored a major victory by capturing the resistance level at 1.59, leaving nothing in the way of a further improvement toward the next noteworthy level at 1.6350. Clients with CAD requirements should consider covering some exposure now or placing a stop order below the market to lock in the recent gains, but we remain optimistic for further upside over the next week or two, especially if stock markets remain weak.
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