The Pound declined against the Dollar yesterday, snapping a three day rally, and UK two-year gilts rose for the first time in three days, as investors sought the security of government debt on concerns that the crisis in the world’s banking industry has further to run. The yield spread between two and 10-year securities widened to the most in a month, after the U.S commercial lender CIT Group Inc said that it probably won’t receive a federal bailout, fueling speculation that it will file for bankruptcy.
The UK currency maintained a generally steady tone in London as it remained resilient, but was unable to make any strong headway, encountering strong resistance around 1.1650 versus the Euro and $1.6400 against the U.S Dollar. The International Monetary Fund warned that the UK government may need to take further action to stabilise the financial sector, which undermined confidence to some extent.
The IMF also reported that the Prime Minister Gordon Brown risks putting pressure on the Pound unless he produces a “credible plan” to curb Britain’s budget deficit. In its annual assessment, the IMF said in a statement that “the success of the current policy packages hinges on the trust of the public in the solvency of the government.”
The Fund predicts that UK debt may double to almost 100% of UK gross domestic product in the next five years, a level that Standard & Poor’s said in May was incompatible with Britain’s top AAA credit rating. Brown faces the an election within the next year and has resisted talking about spending cuts, saying that the economy needs a boost form government funds.
Concerns over the UK debt position has undermined confidence in financial markets, as stocks plunged over night and weakened the Pound, with an element of risk aversion saturating the the market. The Pound may face a sterner test over the coming weeks if there is a sharp deterioration in international sentiment and renewed pressure on the banking sector.
The Pound edged back below $1.64 as investors became cautious with no economic releases to guide direction. Henrik Gullberg, a currency strategist at Deutsche Bank AG, said that the Pound’s 13% rally against the Dollar this year is “overdone” and it may decline towards its “near-term fair value” of $1.55 in the coming months. “The Pound is overvalued, this doesn’t mean that I’m bearish the Pound, but it has moved out of line with everything else around it this year.”
A gauge of technical analysis indicates that the Pound will struggle to break the resistance at $1.6450 and a decline below $1.60 will trigger further downward moves towards the $1.54 level. However, in the short-term the UK currency is being supported by the resilience in risk appetite and UK stock advanced for a fourth day yesterday, as earnings at JP Morgan Chase & Co boosted banking shares.
Lloyds Banking Group Plc led a measure of bank shares to a one-month high, after JP Morgan posted a 36% increase in second quarter profit. The benchmark FTSE 100 Index added 0.4% on the day and is heading for the best weekly performance since March. The FTSE 100 has rallied 5.7% since July 10th, after companies including Goldman Sachs Group Inc reported earnings that beat ‘analysts’ estimates.
The Euro dipped to lows near $1.4050 in European trading on Thursday, but the Dollar was unable to make any further headway and retained a generally weaker tone through the course of the day. There were no major Euro-zone economic developments to guide markets, while rising European equity markets have eased structural fears for the time being.
U.S economic data was mixed and did not have a decisive impact on the market, with the Dollar unable to benefit from a slightly more cautious tone. The number of Americans filing claims for jobless benefits fell last week to the lowest level since January. Initial claims dropped by 47,000 to 522,000, which was slightly lower than forecasts.
There was a high degree of distortion in the unemployment figures from the auto sector, as seasonal layoffs were lower than usual due in part to the number of job cuts already announced. Elsewhere, the Philadelphia Fed manufacturing index weakened to -7.5 for July, from -2.2 the previous month, as optimism over future business conditions deteriorated despite the orders component rising to a 10-month high.
Data Released 17th July
EU 10:00 Foreign Trade Balance (May)
U.S 13:30 Housing Starts (June)
U.S 18:00 NAHB Housing Index (July)
written by Adam Solomon
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