by Adam Solomon
Sterling / Euro and US Dollar
The Pound staged a modest recovery against the majors yesterday, rising for the first time in three days against the Dollar and the Euro, after the Bank of England said that UK inflation expectations reached the highest level since November 2008. Sterling reversed an earlier decline, strengthening against all of the 16 most actively traded currencies, amid speculation of a near-term interest rate rise.
In reality, the governor of the Bank of England and a number of economists have said that inflationary pressures will subside later in the year and drop below the 2% target in 2011. Therefore, the prospect of a near-term increase in borrowing costs is unlikely, especially since the UK economy just about limped out of the recession in the fourth quarter.
The Bank’s quarterly survey, however, shows that UK consumers expect the inflation rate to hit 2.5% in a year’s time, compared with 2.4% in November. Stuart Bennett, a senior foreign exchange strategist at Credit Agricole Corporate and Investment Bank, said that “if inflation expectations are creeping up, this may be a catalyst for the market to give sterling a reprieve.”
The Pound edged above the pivotal $1.50 level against the Dollar and tested resistance at 1.10 versus the Euro but analysts are pessimistic on the chances of a recovery. Ian Stannard, a senior currency strategist at BNP Paribas SA, said that “the inflation expectations show a slight nudge higher. I’d suggest there’s not too much there for sterling to sustain the recovery. A move higher toward the $1.51 area should provide another selling opportunity.”
Concern surrounding the prospect of the first minority government since 1974 has weighed heavily on the Pound this month, as the latest polls indicate that the Conservatives’ lead is shrinking. The UK currency has dropped 6.9% against the Dollar this year, the worst performer amongst all of the most actively traded currencies.
Neil Mellor, a currency strategist at Bank of New York Mellon Corp, said that “uncertainty related to the elections remains one of the driving forces behind the weakness in sterling. Sterling has consolidated a little bit, but we’ve seen consolidation in the downtrend since October 2009. We expect more weakness.”
The Prime Minister Gordon Brown has warned that the nation’s recovery will be far from smooth of the coming months but vowed that “we will weather the storm together.” He also confirmed that this year’s UK budget statement will be delivered in March 24th and that the UK’s economic recovery is still “fragile” and in the early stages.
A number of strategists at Goldman Sachs Group Inc have reduced their three month forecast for the Pound versus the Euro, as the UK election looms largely on the horizon. The bank now expects the UK currency to strengthen towards 1.15 in three months, compared with a previous estimate for it to trade at 1.19.
UK stocks retreated from the highest level in 21 months yesterday, led by a decline in mining companies, amid concern that China may take further steps to cool its economy. The benchmark FTSE 100 Index lost 0.4% on the day, boosting demand for lower yielding currencies like the U.S Dollar. The gauge has climbed 11% from this year’s low on February 5th, as companies reported better-than-expected earnings.
Euro / US Dollar
The Euro rose against most of the major currencies yesterday, rising 0.2% against the Dollar, as German bonds dropped to the lowest level in more than two weeks, amid renewed hope that Greece’s budget deficit will be reined in. Camilla Sutton, a Bank of Nova Scotia currency strategist, said that “there’s been a lot of stabilisation in Greece. Every day we’re moving slowly higher. That’s a good sign for the Euro generally.”
Concern with the Euro-zone has eased slightly, although there is still a high degree of caution, especially with strikes within Greece maintaining underlying fears over the budget outlook. The French President Sarkozy toned down his rhetoric against a weak Euro and this also provided a degree of support for the single currency.
U.S initial jobless claims fell to 462,000 in the latest weekly numbers, down from a revised 468,000 the previous week, which did not provide any real support to the Dollar. The retail sales and consumer confidence data will be watched closely today for further evidence on the strength of spending.
U.S Federal Reserve policy comes into focus next week with the latest FOMC rate announcement due to be held on March 16th. There have been a number of diverging comments from policy makers expressing unease about interest rates remaining at record low levels for an extended period. A change in the tone or language of the accompanying statement would tend to support the Dollar, amid speculation of an interest rate increase.
Data Released 12th March
EU 10:00 – Industrial Production (January)
U.S 13:30 – Retail Sales (February)
U.S 14:55 – Michigan Sentiment (March Prelim)
U.S 15:00 – Business Inventories (January)
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