Sterling Registers Quarterly Gains
Tuesday 04 April 2017
The pound was inspired by a mixture of politics and economic data in March and markets finally witnessed the triggering of Article 50 - an event that failed to cause the kind of movement experts had predicted, writes Ben Scott.
The start of the month saw the pound to euro (GBP/EUR) exchange rate rest in the region of 1.1656 (point A), and close the month trading at levels of 1.1700. In comparison, GBP/USD began March at levels of 1.2298 and finished at 1.2542.
March in Review
The 1st March (Point A) began badly in terms of economic data when the UK’s Markit manufacturing purchasing managers’ index (PMI) came in below forecasts at 54.6 in February. Although the index registered a number above the 50.0 threshold which denotes growth, economists had expected a stronger 55.7.
Markit stated: ‘The seasonally adjusted Markit/CIPS purchasing managers’ index (PMI) posted 54.6 in February, a three-month low and down further from December’s two-and-a-half year high. However, the PMI was firmly above its long-run average of 51.6 and nonetheless signalled expansion for the seventh successive month.’
In comparison, the US ISM manufacturing PMI jumped from 56.0, above the 56.2 forecast, to reach a healthy 57.2 in the same time period.
As a result, the pound headed for its longest losing streak versus the single currency since August (point B) as economic data began to falter in what experts believe is a knock-on effect from the decision to leave the European Union. Simultaneously, the pound was also heading for its second week of declines against the greenback.
On 15th March, the UK unemployment rate managed to slip a shade lower from 4.8% to 4.7%, but wage growth stumbled from 2.6% down to 2.2% in the three-month moving average on the year. Unemployment hasn’t resided lower than 4.7% since 1975, but concerns surrounding wage growth dampened the release.
Industry expert Martin Beck commented: ‘The most concerning aspect was the further slowdown in wage growth. The January data already showed the first year-on-year decline in real wages since August 2014 and, given the likelihood that inflation will continue to climb through 2017, continued weakness in pay growth could threaten a squeeze on household finances. This, in turn, would risk a more severe slowdown in consumer spending growth than we currently anticipate.’
Central Bank Comments
Eurozone inflation hit 2.0% in February for the first time since 2013 and in a press conference in Frankfurt, Draghi announced that the central bank had positively reviewed its growth and inflation forecasts. The ECB also dropped a line from its statement regarding monetary policy and the markets perceived it as a hawkish move supported by Draghi’s avoidance of questions regarding the bank rate.
Since the upbeat February reading, the March Eurozone inflation figure registered a fall to 1.5%, offering Draghi some protection against major nations that are placing pressure on the central bank to increase interest rates.
Meanwhile, Bank of England (BoE) policy maker Kristin Forbes broke ranks in March and voted for an interest rate hike in the UK economy. This was the first split on the Monetary Policy Committee (MPC) since last July, and Forbes voted to raise rates to 0.5%. Other MPC members suggested that they may soon follow.
Across the pond, Federal Reserve Dallas bank president Robert Kaplan stated that the central bank should hike rates another two times in 2017. Meanwhile, St Louis Fed president James Bullard stated that he would perhaps back one more rate hike in 2017, but ‘this is not an environment that data is screaming at the Fed that it has to move.’
Brexit and the Pound
However, on the 29th March EU Council President Donald Tusk was handed a letter by UK representative to the EU, Sir Tim Barrow, and the pound failed to be phased.
Surprisingly, sterling benefitted from the event as things were finally set in motion; the market had expected a different result considering the pound fell when the last barrier for May to trigger Article 50 was removed earlier in the month.
Since the referendum, the pound has been in the habit of falling following important Brexit developments and so the pound’s strength towards the end of March was a welcome surprise for sterling investors.
Euros or Pounds?
In addition, the political instability in the currency bloc concerned many ahead of April’s French elections. According to some industry experts, the euro could drop to 15-year lows if controversial far-right candidate Marine Le Pen becomes the new French president. Le Pen would call for an EU referendum with the intent of pulling France out of the eurozone and the EU.
Banque Pictet & Cie Economist Frederik Ducrozet commented: ‘The market reaction would be very negative since re-denomination risks have been priced in only to a very modest extent.’
The possibility of Le Pen as the reigning champion is slim, but if 2016 showed anything, it’s how volatile and unpredictable politics can be.
In addition, Brexit developments could also impact the pound sterling to euro (GBP/EUR) exchange rate - especially if communications heat up. Further negative UK data would also be bad news for the pound and give the euro the opportunity to gain.
Important data releases to watch for will be the UK trade balance number, inflation figures, consumer confidence, and gross domestic product ecostats.
For the eurozone, eyes will be on the currency bloc’s unemployment rate, ECB statements, business confidence, and the ECB interest rate decision and following press conference towards the close of the month. Central bank comments are likely to cause some significant movement in the months ahead.
Long-term, there’s several factors that could impact the GBP/EUR currency pair.
As we lead up to the second round of French elections in June and the German elections in September, the euro may pay less attention to economic data and be ruled more significantly by politics. Inflation pressures on both the UK and euro area are likely to be closely watched by investors and a market keen to see interest rate increases.
Additionally, the euro has significant pressure from other areas such as Greece. While ongoing bailout debates take place, some politicians have stated that fresh elections are needed amid the ongoing Greek debt problems, which would cause further political instability.
In addition, Italy’s broken banking system could place some downward pressure on the single currency in the future. Two Veneto-based banks have asked the Italian government for bailout funds less than a year after being rescued from bankruptcy.
Foreign Exchange Ltd