Why Selling GBP is Not One Way Trade

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Why Selling GBP is Not One Way Trade

Daily FX Market Roundup 08.15.16

In the month of August, the British pound has been the weakest currency and the trend continued today with sterling extending its losses to a 3-year low versus the euro, a 1.5 year low versus the Swiss Franc and a one month low versus the U.S. dollar. While the milestone for GBP/USD is less headline grabbing, the currency pair is trading roughly 100 pips away from its 30-year low. Over the weekend Rightmove reported a second consecutive month of lower house prices which contributed to the decline in sterling but the main reason why the currency is weak is because investors are worried about this week’s U.K. economic reports. They will be the first set of post Brexit numbers and the fear is that they will be ugly. Between the GfK consumer confidence index, the RICS house price balance and today’s Rightmove report, the sting is being felt across the country. The government may have no plans to invoke Article 50 this year but the damage has been done and consequences are just beginning to appear.

This week we have consumer spending, inflation and labor market reports scheduled for release. Investors are clearly bracing for disappointing results and if they are right, we could see GBP/USD at new 31-year lows and EUR/GBP at fresh 3 year highs. For GBP/USD, if the post Brexit low of 1.2798 is broken there’s no major support until the June 1985 low of 1.2565 and for EUR/GBP, the next major resistance level is 0.8765, the July and August 2013 high. But weakness in sterling this week is not a given. We are confident that the labor data will be soft but the surprise increase in the BRC retail sales monitor suggests that discounting may have fueled stronger demand in July. At the same time, in their Quarterly Inflation Report, the Bank of England said a weaker pound could drive up inflation, which would be consistent with the smaller decline in shop prices reported by the British Retail Consortium. Short sterling positions are at record highs so any upside surprise could squeeze the currency quickly higher. So while the trend in GBP is still down, selling pounds may not be an easy one-way trade.

The other big story today was the one-month high in oil that took USD/CAD lower for the sixth consecutive trading day despite a larger decline in existing home sales. There have been plenty of times that a sell-off in USD/CAD has lasted this long with some unchanged days in between but this is the longest stretch of USD/CAD declines without a bounce or an unchanged day since March 2010. This means there’s a strong possibility of a bounce in the next 24 to 48 hours. The rise in oil was driven by talk of a production cut at next month’s informal OPEC meeting. There was a headline that was later denied by Russia who said cuts would not be made and we agree that this scenario is most likely and with weeks before that informal meeting, oil is due for a correction.

It was a relatively quiet day for the U.S. dollar, which traded lower against all of the major currencies except for GBP.
The NAHB housing market index increased but manufacturing activity in the NY region contracted in August after slowing significantly in July. U.S. housing starts, building permits, industrial production and consumer prices are scheduled for release tomorrow. Most of these reports are expected to show weakness but with the FOMC minutes and a number of Fed Presidents scheduled to speak, we believe that the downside for the dollar is limited because policymakers will remain optimistic. USD/JPY is still holding 101 thanks in part to weaker Japanese data. Economists had been looking for the economy to grow in the second quarter but instead it stagnated, highlighting the ongoing troubles in Japan’s economy.

The euro traded higher as it meanders between 1.1135 and 1.1230 range. Tomorrow’s German ZEW survey and Eurozone current account numbers could drive the currency back above 1.12 but gains should be limited to the top of the range. The euro is being driven higher by EUR/GBP demand but the Eurozone faces its own banking sector troubles. The account from the most recent ECB meeting, which are scheduled for release this week should remind investors that the central bank remains vigilant about the risks in the region.

Lastly, both the Australian and New Zealand dollars moved higher today as U.S. stocks continued their upward ascent. There was no data from Australia but New Zealand PMI services came in softer at 54.2 vs. 56.4 the previous month. The disappointing data did little to thwart the kiwi as it still managed to find strength against the greenback. AUD is expected to consolidate until the release of the RBA minutes tonight. The Reserve Bank cut interest rates by 25bp at their last meeting but instead of falling, AUD soared because they did not offer any further guidance. Investors will be watching the minutes closely for any clues on whether the door to further easing has closed.

Kathy Lien
Managing Director

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