Sterling Update July

Tue 24 Jul 2018

Getting a handle on Sterling’s direction is tricky at the moment with two opposing narratives causing confusion: (1) Brexit (2) an economy which is ticking along quite well and a central bank in a hiking cycle (albeit an extremely slow one).

Economic data and been OK overall and the main influencers such as Services PMI, Employment and Earnings have all been great and a hawkish BoE even Cunliffe who is traditionally the most dovish member, was more hawkish a couple of weeks ago in a speech. It seems extremely likely that the MPC will hike in August.

Pricing was very cheap just a couple of weeks ago but has firmed now, despite slightly weaker retail sales and CPI. Nevertheless, it’s hard to be fully priced the market is extremely wary of Governor Carney now, as it has been burnt before… Nevertheless, it would be a surprise not to see an August hike at this stage but there’s every chance the MPC will choose to put a dovish spin on it due to the Brexit risks.

If they choose to look past the Brexit risks however (as Cunliffe hinted they should), we might be pleasantly surprised. A hawkish MPC would certainly take the market by surprise (boost Sterling).

The BoE’s Broadbent spoke last night, but was disappointing as we hadn’t heard from him meaningfully since May. He refused to touch on monetary policy with regards to a potential August hike. No need to panic though the corresponding Reuters headline clearly suggests that Broadbent was just keeping reporters on topic:

BANK OF ENGLAND'S BROADBENT, ASKED IF HE WILL VOTE FOR A RATE RISE NEXT WEEK, SAYS DOES NOT KNOW AND WOULD NOT SAY IF HE DID.

An August rate hike still seems much more likely than not, especially given Cunliffe’s recent remarks as the most dovish MPC member (we are now around 90% priced in).

Brexit and Westminster

Do not expect Brexit noise to go away though. August is known as “silly season” in Westminster (some would say it is always silly season) and there will undoubtedly be rogue stories flying around for the next few weeks – substantiated or not. It only takes a couple of MPs to throw out some stories in a low-news week to generate some excitement over nothing.

Chatter of any coups to topple Theresa should be treated with extreme caution, however the market is liable to overreact in a period of thin liquidity. Any Conservative party Brexiteer putsch also looks unlikely due to (1) simple arithmetic within the party and (2) time is running out to get Brexit done and to remove her would be to sabotage the project entirely.

There is a feeling that we are heading towards a soft-leaning deal with the EU, to be concluded by the end of the year, most likely in November/December (the October EU summit now probably looks too ambitious at this stage). At that stage, if the deal looks good and the economy remains on a firm footing, then it seems evident that the Pound is way too cheap.

Sterling should undoubtedly be materially higher if all of this comes to pass, but we are undoubtedly set for further turbulence until then……

 

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