- GBP/EUR suffers its worst weekly loss since October 16 at -4.4%.
- Volatility ahead with downside to at least 1.0890, upside to 1.1460.
- But UK, European and U.S. coronavirus epidemic curves steepen.
- Virus spread said to be most important factor for currencies ahead.
- UK on the verge of virus 'surge' that risks a bloody week for GBP.
- France, Spain enter lockdown as UK & Sweden risk "pariah" status.
- G7 to meet on coordinated fiscal and monetary response Monday.
- Central bank and government actions, volatility expected this week.
- More Brexit-referendum-sized moves are possible in weeks ahead.
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- GBP/EUR Spot rate: 1.1051, down -4.41% last week
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The Pound-to-Euro rate closed its worst week since October 2016 on Friday after suffering a more-than 4% loss but it faces a pickup in volatility as national 'epidemic curves' rise and fall in the week ahead and ultimately, the risk of further Brexit-referendum-sized declines as the UK epidemic gathers pace.
All markets saw extreme volatility last week with Thursday's losses putting many stock indices on course for their worst week in history before Federal Reserve (Fed) actions and a significant announcement from President Donald Trump saw them more-than reversing earlier losses. However, and throughout all of this, Pound Sterling got almost no respite whatsoever. Sterling fell steeply against seven of nine major rivals last week.
The Pound-to-Euro rate should now see upside limited to the 1.1460 level, according to one leading technical analyst, while the chart outlooks for the GBP/USD and EUR/USD rates suggest Sterling risks falling to its lowest level since July 2019 in the week ahead.
This is because the GBP/USD rate is now on course for the 1.1980 threshold while EUR/USD is indicated to find support at 1.10, which implies a Pound-to-Euro rate of 1.0890 in the event the former continue their declines. However, a Fibonacci retracement of the August 2019 uptrend indicates support around 1.0950, but even that would put Sterling back at September's lows.
Above: Pound Sterling performance against major rivals last week. Source: Pound Sterling Live.
“EUR/GBP outlook is positive,” says Karen Jones, head of technical analysis for currencies, commodities and bonds at Commerzbank. “The Elliott wave count has turned more positive and dips lower are indicated to hold over the .8725/.8645 pivot and while above here it will remain relatively stable. The market has recently completed a base with a .8979 upside measured target.”
Jones told clients early on Friday the Pound-to-Euro rate was headed to 1.1137 and then 1.1084, as Sterling traded around the 1.12 level against the Euro, although the subsequent sell-off took the exchange rate below even those levels in the most punishing sell-off since the October 2016 Pound Sterling 'flash crash.' Such steep declines can often invite a period of mean reversion although in this case there's a risk that any Sterling bounce is taken by the market as an invitation to start selling again.
Sterling is being pushed to levels only really been seen when the market's 'no deal Brexit' fears were at their most palpable. Losses of last week's size should mean Sterling is owed some respite but in light of an unprecedented situation around coronavirus, only time will tell what the week ahead will offer.
Above: Pound-to-Euro rate shown at daily intervals. 78.6% Fibonacci retracement near 1.0950 may offer support.
The Pound will start trading around 1.1050 as investors digest an eventful weekend in which France and Spain went into a something like 'lockdown' due to the spread of coronavirus. Those steps were taken as UK government advisers extolled the benefits of so-called 'herd immunity' while government ministers took to the tabloid papers to urge manufacturers including JCB and Rolls Royce to adapt their production lines so that they can produce ventilators for the National Health Service. Italy's experience in the north has been that 10% of coronavirus sufferers require mechanical ventilation and intensive care.
"Italy may still be 2-3 weeks away from the peak, and the rest of Europe (and the US) another week or so behind Italy. Unfortunately, as several national healthcare systems are running out of capacity, countries have begun to restrict the number of people being tested to only seriously ill cases, which distorts this comparison. In the UK, this has been disguised as a policy of “herd immunity”, although hard to believe, and the sense here in London is indeed that within days, the government may make a U-turn on this," says Eric Nielsen, group chief economist at UniCredit Bank.
Britain has been fortunate enough so far to enjoy one of the lowest per-capita coronavirus infection rates, perhaps because of its segregation from mainland Europe via the English Channel, but infection numbers have risen rapidly in recent days and government as well as broader society are increasingly bracing for a further surge in infections as the outbreak well and truly gets underway. This could have significant downside implications for the Pound. There were 1,372 UK infections as of 0900 Sunday, with 35 dead. Both numbers are up sharply from 387 infections and 6 deaths known of on Wednesday 11, March.
Above: Number of UK coronavirus cases confirmed on a daily basis. Source: UK Government.
“There are only two factors now that will shape investor sentiment and financial market conditions – COVID-19 data and global policymakers’ response to the crisis. The news on the former is still not particularly good, but action from the Fed yesterday offers hope on the latter,” says Derek Halpenny, head of research, global markets EMEA and international securities at MUFG.
Investors often say the aim of the game in financial markets is to 'buy low and sell high' but the rub for Sterling is that applying such a strategy to the currency market would likely require the British unit and the Euro to be sold while others like the Chinese Yuan and Korean Won are bought. Epidemic curves are well and truly in decline in China and Korea while outbreaks in the UK and other parts of Europe are only just getting underway.
Furthermore, and after initially holding off the virus, the Pound and Swedish Krona now face becoming the dogs or "pariahs" of the market as they succumb to the viral pneumonia. Exactly how this plays out in the Pound-to-Euro rate remains to be seen, especially as last week's losses may mean Sterling is owed some respite or at least a short-term slowdown in the sell-off, although there's downside to around 1.0890 from a technical perspective.
"It probably makes sense to stay away from currencies, equities and credits in markets that are faced with an underlying exponential spreading of Corona still" says Martin Enlund, chief FX strategist at Nordea Markets. "Sweden and UK are the odd ones out in the European fight against Corona. No material travel bans, very time-lagged action against gathering in large crowds and so on. If this “laissez-faire” approach proves to be wrong, then GBP and SEK may prove to the worst place to hide, as Sweden and UK could be seen as the “pariahs” in such case. Long EUR/GBP and long EUR/SEK still look like decent risk/reward."
Above: Pound-to-Euro rate shown at weekly intervals. Last week's losses rivalled those seen after the Brexit referendum.
The Pound and Euro: What to Watch in the Week Ahead
There is a range of economic figures due from the UK and Europe in the week ahead, which would normally be important drivers of exchange rates but these all matter very, very little in the current market where the infection growth rates, death rates and the actions of authorities will are the only things that matter.
Economic data will become relevant again in the months ahead but this week's figures relate primarily to the economy of January and February, which is moot at a time when authorities are facing a de facto choice between allowing their economies or their health systems to collapse. Steepening epidemic curves (increasing infection growth rates) risk overloading healthcare systems given that 10% of patients suffering from the virus require intensive hospital care.
“We have seen a very high number of ICU admissions, almost entirely due to severe hypoxic respiratory failure requiring mechanical ventilation. The surge can be important during an outbreak and cluster containment has to be in place to slow down virus transmission. We are seeing a high percentage of positive cases being admitted to our Intensive Care Units, in the range of 10% of all positive patients,” says Prof. Jozef Kesecioglu, president of the European Society for Intensive Care Medicine, in an email to colleagues dated March 04. “We wish to convey a strong message: Get ready!”
For now the market focus is on trends in epidemic curves and actions to stem the spread as well as provide support for economies.
Above: French epidemic curve. Source: World Health Organization.
France and Spain joined Italy in locking down citizens - which forbids all but essential travel from the home - at the weekend, risking unprecedented damage to their economies and likely necessitating a combined government and central bank response like no other seen in modern history.
Meanwhile New Zealand and Australia, which have among the lowest number of cases among major economies, announced at the weekend that travellers visiting the countries will need to self-isolate for 14 days. Tourist volumes, an important source of economic growth, had already collapsed everywhere in recent weeks although these moves could ensure the antipodean countries remain effectively closed to many holiday makers for the foreseeable future.
Above: Spanish daily disclosures of new infections. Source: World Health Organization.
This is the backdrop against which Monday's G7 meetings of central bank heads and finance ministers will take place and outcome of them will be key for investor sentiment and the mood in markets this week, although Wednesday's 18:00 Federal Reserve policy decision will also be important.
There's a risk that something is announced before Wednesday's scheduled decision to maximise the impact of any measures. The Fed has already all-but launched a fourth round of quantitative easing.
Above: Pound-to-Canadian Dollar rate shown at 15-minute intervals alongside USD/CAD rate (red line).
The Bank of Canada (BoC) announced its second surprise interest rate cut after the European close last Friday and just before President Donald Trump declared a state of emergency, "unleashing the full force of the federal government" and unlocking around $50 bn in disaster relief funds. Congress has since reached a bipartisan agreement on measures to provide further support to U.S. companies and households as they grapple with the virus.
"The reported number of U.S. cases continues to rise sharply, and further dramatic-looking increases are inevitable as testing is ramped up, and the virus continues to spread Given that testing is not universal and most people with the virus don't need medical attention, the only way we'll know for sure that the outbreak is over is when the number of deaths begins clearly to fall. The number of deaths is still rising rapidly," says Ian Shepherdson, chief economist at Pantheon Macroeconomics.
Above: U.S. daily disclosures of new infections. Source: World Health Organization.
The Pound is at particular risk from a steepening epidemic curve for many reasons including the UK's earlier fortune in dodging a severe outbreak as well the fact that it's a standalone currency, much like the Swedish Krona. The Euro, on the other hand, is blighted by growing epidemics in Italy, Spain, France and Germany but the currency has at times benefited from the resulting instability in financial markets generated by those outbreaks.
Pound Sterling underwrites activity in the City of London, where assets under management are more than three times national GDP in the good times, and so could be vulnerable to capital flight in the event the UK suffers a sudden surge in coronavirus infections and deaths that threatens the smooth operation of London. It's also at heightened risk because of the goverment's strategy. The UK also has a large current account deficit, which means Sterling relies for part of its value on continuous inflows of foreign capital that risk being interrupted.
Above: Euro-to-Dollar rate at daily intervals. Correlation with 10-yr German bond yield goes into reverse from February.
"As countries with large outbreaks of Covid-19 move to testing only people sick enough to be in hospital, their data—and hence aggregate regional and global data—cease to be reliable. We don't know how many people have the disease, and we don't know how rapidly it's spreading," Shepherdson says. "It does seem, though, from data earlier in the outbreak, that cases in large outbreaks double every three our four days. That means, in theory, that an outbreak of 1,000 cases becomes more than a million cases after just 33-to-44 days."
The UK government moved from the "contain" phase of its strategy to the "delay" phase last week but there's very little difference in the actions and advice of government under the two purportedly different phases. Furthermore, and although a minister has denied the government's strategy is to pursue so-called 'herd immunity', its advisers have increasingly made use of the term.
Above: UK daily disclosures of new infections. Source: World Health Organization.
'Herd immunity' could arguably be described as a 'don't bother' strategy in which the coronavirus infection is left to work its way through society, claiming whoever it does in the absence of actions to protect the nation's oldest and most vulnerable citizens. The Scientific Advisory Group for Emergencies (SAGE) said Saturday "the next planned effective interventions (shielding the vulnerable and household isolation) will need to be instituted soon."
"We have a plan, based on the expertise of world-leading scientists. Herd immunity is not a part of it. That is a scientific concept, not a goal or a strategy. Our goal is to protect life from this virus, our strategy is to protect the most vulnerable and protect the NHS through contain, delay, research and mitigate," says Health Secretary Matt Hancock in a Sunday article for The Telegraph, which is available without paywall on the gov.uk website.
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