by Adam Solomon
The Pound took advantage of broad Dollar weakness yesterday, rising to the highest level in three months in London, after UK banks sailed through the European bank stress test. The UK currency has continued through $1.55 for the first time since April 16th, after the FSA said on Friday afternoon that HSBC Holdings Plc, Barclays Plc, Lloyds Banking Group Plc and Royal Bank of Scotland Plc all passed tests that were designed to show their ability to withstand further economic turmoil.
Adam Cole, head of global foreign-exchange strategy at Royal Bank of Canada, said that “UK banks came out okay from the stress tests, which is probably helping the Pound extend its gains.” The UK currency rose even as data signaling that the economic recovery may be in jeopardy of stalling, as the government cuts spending in an attempt to rein in deficit.
According to a survey from Hometrack Ltd, the average price of a home in England and Wales fell 0.1% from June, as the recovery in the property market shows signs of slowing. The Pound has gained 2.7% against the U.S Dollar since June 25th, amid investor optimism that the recovery will be sustained, after second quarter growth figures came in better-than-expected.
The Pound rallied against the lower-yielding currencies like the Dollar and the Yen, as the FTSE 350 Banks Index gained and the UK currency also withstood a cut in the UK economic growth forecast from the Ernst & Young LLP Item Club. There have been some suggestions that the surprising acceleration in UK gross domestic product in the second quarter will mark the peak of the economic recovery. On Friday, the preliminary estimate of GDP in the three months to June rose 1.1%, almost double the expectations of 0.6% growth.
The Pound rallied towards the pivotal 1.20 level against the Euro on Friday, prior to the release of the stress test results at 5pm, while choppy trading conditions towards the close of the European session saw the UK currency close just under the level. The Euro continued to rally against the Dollar yesterday approaching $1.30 by midday, as only seven out of the 91 banks tested failed and speculation persists that the U.S economy may suffer a “double dip” this year.
The economic outlook in the U.S has soured in recent weeks, while Europe and China have also decelerated simultaneously, leaving widespread concerns over the state of the global economy. The Pound failed to break above 1.20 against the Euro and lost ground towards the close of trading last night. The UK currency will probably remain in the ascendancy against the Dollar, as UK stocks climbed to the highest level in 10-weeks.
The Euro continued to rally against the majority of the 16 most actively traded currencies yesterday, amid speculation that European banks will be able to avoid defaults, after only 7 out of the 91 banks failed the stress test. The European Union found that banks only need to raise a combined €3.5 billion of capital and regulators are using the tests to reassure investors about the health of financial institutions, after the sovereign debt crisis engulfed Greece, Spain and Portugal.
Rising budget deficits in those struggling EU nations has increased concern that they won’t be able to pay their own debts. Adrian Foster, head of financial markets research for Asia at Rabobank, said that “medium-term accounts look to have come through and picked up the euro. They don’t see near-to-medium term prospects for a default in Europe.”
Some investors have questioned whether the stress tests were rigorous enough to really highlight the problems with European financial institutions, should the sovereign debt crisis worsen. The ECB President Jean-Claude Trichet said yesterday that the tests were important for providing transparency.
The U.S economic data released yesterday boosted risk appetite, after the sales of new homes rose unexpectedly in June, following an unprecedented collapse the previous month. New home purchases increased 24% from May to an annual pace of 330,000, a signal that the worst of the slump came about due to the end of a government tax credit.
The Euro has rallied towards the significant resistance level at $1.30 against the Dollar and it is no coincidence that the single currency has also made gains versus the Pound. The EUR/USD rate will largely dictate what happens with GBP/EUR and at present sentiment towards the single currency has improved following a string of positive economic reports and the results of the stress test.
The Australian Dollar remained resilient against the majors yesterday, as the prospect of an interest rate increase in August received a boost. The Reserve Bank of Australia said last week that the policy makers intend to use the results of the European stress test to decide whether to raise rates next month, while the latest CPI numbers are expected to show robust inflationary pressures.
U.K 11:00 – CBI Distributive Trades (July)
EU 09:00 – M3 (June) – 3 Month Moving Average
U.S 14:00 – Case Shiller House Prices (May)
U.S 15:00 – Consumer Confidence (July)
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