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Pound Sterling Relief as Euro Rally Tipped to Pause, US Dollar Eyes Fed Meeting

Exchange rates

  • Pound to Euro exchange rate today: 1 GBP 1.1195 EUR
  • Pound to Dollar exchange rate today: 1 GBP = 1.3067 USD

The darling of the FX speculator at present is of course the Euro which has this year outperformed all others in the group of the world’s top ten currencies.

The currency has been in a strong uptrend against both the Dollar and Pound of late with little to suggest that momentum can't continue taking it higher over the course of coming weeks.

The move higher has however accelerated of late with a strong performance coming in the wake of the European Central Bank’s July policy meeting where the ECB apparently signalled it was comfortable with the currency’s rise.

As such, foreign exchange markets are heavily biased in favour of the single currency with a majority of traders holding bets that further strength is coming.

And the analyst community is also broadly in favour of this stance with a host of big names upgrading their forecasts for the single currency in anticipation of a long-term cyclical uptrend.

But - and there is always a but - the near-term could see the Euro fade some gains.

In fact, the start of the new week is characterised by a broad-based sell-off in the Euro following the release of worse-than-forecast PMI data out of the Eurozone which suggests economic growth has hit a peak.

Strategist Dr. Vasileios Gkionakis at UniCredit Bank in London says the “case can be made for a tactical” Euro sell-off because “too much is baked into the market from a short-term perspective”.

And recall, the investment community is overwhelmingly now positioned in favour of further Euro strength, this increases “the risk of a near-term correction,” says Gkionakis.

“Market participants are also wary if EUR may have appreciated too much too quickly,” says a strategy note released by DBS Group Research.

DBS Research believe there are some lessons to be learnt in how the US Dollar traded at the start of 2017.

Recall the Dollar roared into 2017 as the markets awaited new US President Donald Trump’s promises on tax and spending reform.

But when that news was not forthcoming, the Dollar began to sell. In fact, it hasn’t quite recovered composure.

“Many are wondering if EUR is now at the same place as the USD was at the start of the year,” say DBS Research.

Analysts note that Euro-bulls appear to be ignoring the ECB’s view that it remains patient in withdrawing its stimulus despite its growth optimism.

This was in spite of the retreat in EU CPI inflation to 1.3% (YoY) in June 2017 from its 2% target in February 2017.

So there is a risk that the ECB might not deliver the messages regarding future policy that markets have baked into the Euro.

A sharp withdrawal in the Euro is unlikely just yet but DBS Research are looking for the Euro to show a desire to consolidate.

Beyond the short-term, the Euro should however continue rising according to UniCredit.

“Looking at the medium-term picture, we find little to no excuse not to expect more Euro upside: the mix of supportive currency valuation,” says Gkionakis.

UniCredit have long been bullish on the Euro and there is a sense they have been vindicated.

But, there is more to come and “we are placing our euro forecasts under review,” says Gkionakis.

UniCredit are forecasting the Pound to Euro exchange rate to end 2017 at 1.1235 ahead of a gradual fall to 1.11 by the third-quarter 2018.

The Euro to Dollar exchange rate is forecast to end 2017 at 1.14 ahead of a gradual rise to 1.18 by the end of 2018.

Their fair-value model however sees EUR/USD closer to 1.25.

Meanwhile analysts at Deutsche Bank have told clients it is their "house view" that the Euro is likely to appreciate a further 5% against the Pound.

"We turned more positive on Euro," say Deutsche Bank in a publication released July 25. "Limit to Sterling downside vs. Dollar as BoE uncomfortable with weak Pound. But currency uniquely exposed to earlier / faster ECB tightening − G10’s largest current account deficit, lowest real rates."

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Sterling: Financial Stability Concerns Grow

Concerns for the UK economic outlook have been raised by the Bank of England which has warned a new era of easy credit risks endangering “everyone else in the economy”, according to a high-ranking official at the Bank of England.

Alex Brazier, who is a member of the bank’s Financial Policy Committee, warned in a speech on Monday that “pockets of debt” pose a growing risk, as household incomes are squeezed by rising prices and weak wage growth.

Brazier highlighted three aspects of household lending that were of particular concern:

  1. Terms and conditions on some credit cards and personal loans have been relaxed.
  2. The share of high loan-to-income mortgages has been increasing
  3. The rapid growth of credit used to buy cars has left some lenders exposed to prices in the used car market.

“The spiral continues, and borrowers rack up more and more debt. Lending standards can go from responsible to reckless very quickly,” says Brazier.

If the Bank of England were to look at tightening up on lending it could restrict the supply of money to the economy which could have the same impact of an interest rate rise.

Such dynamics are typically positive for a currency if the impact on economic growth is negligible.

US Dollar: US Fed, Trump Takes Another Shot at Obamacare Repeal

The Dollar has struggled thus far in 2017 amidst the failure of President Donald Trump to stamp his legistlative agenda on the country and signs that the US Federal Reserve is in no rush to push interest rates higher.

With regards to both the above, traders will have further information to digest.

Firstly, a procedural vote is dune on Tuesday as Trump seeks to repeal Obamacare with Trump issuing a challenge to Republican senators to rally behind their healthcare bill.

Reports however suggest that the shape of the Bill that will be put before lawmakers is unclear and this already poses problems for Trump.

Markets will want to see Trump win as this would communicate that he does have the ability to pass legislation and the prospect of lower taxes and increased public spending becomes a reality once more.

The Dollar rallied after Trump won the Presidential election in November 2016 as markets bet that Trump would stimulate growth in the economy with his policy agenda.

The currency has since fallen as it became clear passing lesgislation would not be easy.

Then there is the US Fed to watch mid-week.

"The general trajectory of Fed policy is on everyone's minds and few will argue that the most recent rate hike won't be their last even though Fed Fund futures show investors pricing in less than 50% chance of another rate hike before the end of the year," says Kathy Lien, Director at BK Asset Management.

For the past few weeks, US data has disappointed against market expectations and that's supped investor  confidence in the Dollar.

With no major economic reports scheduled for release before Wednesday's FOMC rate decision, investors could approach this week's meeting with scepticism.

The Fed is expected to maintain a positive outlook and a hawkish bias with regards to raising interest rates but Lien says the real uncertainty is whether the market believes them.

"As no hike is expected in September, December is a long time from now so investors will still be in show me mode - waiting for data to confirm the Fed's hawkish views before leveraging into long Dollar trades," says Lien.

This could allow GBP/USD to maintain recent ground but with sentiment so negative towards the Dollar don't be surprised if we see a decent rally on any positives coming out of the healthcare vote and the Fed meeting.

 

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