The key driver of Sterling activity this week was the Bank of England’s (BoE) quarterly Inflation Report on Wednesday, which played out generally as expected. The updated forecasts from the BoE’s Monetary Policy Committee were largely in line with previous versions, suggesting that the first benchmark interest rate hike in the UK may occur in late Q1-2015 or early Q2-2015.
As well BoE governor Carney left his flagship Forward Guidance policy unchanged. As tends to be the case with central bankers, Carney maintained an expert degree of vagueness during his press conference, though there were a couple of sound bites that caught the attention of investors.
While Carney did acknowledge that “the economy has started to head back towards normal”, he cautioned that there has likely only been “a modest narrowing in the margin of spare capacity” and that “significant slack remains”.
Investors took this to be Bearish for the Pound, leading it to give back broadly on Wednesday. In particular the GBPUSD retreated further from last week’s multi-year highs as the tone of Carney’s comments left investors struggling to justify long positions. Following its run at 1.7000 this pair has pulled back around 2 cents. For the moment trend support has limited further declines, however it should fail we could see a move back to April lows in the 1.65 handle.
In contrast to GBPUSD, the Pound’s performance against the Euro this week has been strong as sentiment in the common currency moved from bad to worse on the back of a string disappointing data events (German Economic Sentiment and Eurozone GDP). GBPEUR touched fresh 16-month highs this week as it extended its rally off of March lows near 1.1900. Euro weakness took a bite out the EUR$ as well; which after being turned back from 1.4000 last week has cratered over 300-pips and is trading near multi-month lows.
Last week saw this pair experience a technical break-out of its 9-month trend, suggesting that further declines could be in the cards. This would be in line the fundamental picture, which, via contrasting economic fundamentals between the USA and EU, points to downside risk in this pair going forward.
Looking to next week there are a few pieces of data to be aware of, especially from the UK. Tuesday sees the Consumer Price Index (CPI), the go to measure for inflation, expectations for which are 1.7%. CPI results since the autumn have shown that inflation in Britain has tumbled significantly””declining from 2.7% in October to 1.6% last month. With the BoE target level at 2.0% the declines have prompted warnings from Carney, even leading him to cite inflation concerns as a factor in maintaining extraordinarily accommodative monetary policies. A miss on Tuesday risks adding fuel to the growing bearish sentiment in Sterling following the less than inspiring Inflation Report.
UK Second Estimate GDP will be Thursday. While GDP is a crucially important data point, the ‘Second Estimate’ simply restates previously announced results post any adjustments that the number crunchers at the Office for National Statistics feel the need to make. Accordingly currency markets are only likely to react if the outcome deviates from the previously released result.
Next Thursday will also see a batch of Eurozone Purchasing Managers Index (PMI) results. PMI gauges the outlook of business managers, with a reading above 50.0 indicating that respondents expect their respective industry will expand, and a sub-50.0 reading suggesting contraction. Expectations are for above 50.0 readings in the major economies (Germany and France) as well as for the Eurozone-wide headline number. With the sentiment shift in the Euro lately, below expectations readings could see the common currency give back, significantly. With ECB president Mario Draghi singling out the Euro at the last monetary policy announcement investors seem to be looking for excuses to sell.
Further reading: US data looking good, so why did the dollar drop? 5 reasons
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