An Unusually Good Week for Sterling

In this week’s Moneycorp Dollar update:

The coming week will be even more critical, bringing data for government borrowing, retail sales and third quarter GDP.

On Monday it all still looked scary for sterling. A dip almost to $1.57 on Tuesday morning suggested it could be in for more of the punishment meted out to it at the end of the previous week. Then began a rally that lasted until Thursday evening. Sterling pushed ahead to peak above $1.6350 before consolidating over the weekend. It opened in London this morning at $1.63.

The early nervousness came as a result of a government initiative to raise £16 billion by selling off non-core assets such as the Dartford crossing. Compared with the admitted budget deficit of £175 billion this year, investors saw the measure as no more than a flea-bite out of the problem. At the same time they also saw a report from the Centre for Economics and Business Research that suggested we could be looking at a 0.5% bank rate for another 18 months and one no higher than 2% by 2014. It was not new news but it was an unwelcome reminder of an unpleasant situation.

On Tuesday a speech by Bank of England Deputy Governor Charlie Bean on the subject of ‘Quantitative Easing: An Interim Report’ could have had the pound on the run, if only for its title. Investors Do Not Like quantitative easing, which they see as an inflationary tactic; good for the economy maybe but bad for the value of the currency. In fact they took kindly to Mr Bean, perhaps because he was the first bank Grandee in recent months not to talk sterling down.

The following day the Financial Times published an interview with Paul Fisher, a Monetary Policy Committee (MPC) member and the Bank of England’s Director of Markets. He made several points, among them an observation that quantitative easing is working, a reminder that it may or may not be extended when the current £175 billion kitty runs out next month and a statement that the Bank does not deliberately set out to guide the currency in any particular direction (i.e. down), however it might appear.

Investors’ initial reaction was to focus on the “may or may not be extended” bit. Very quickly though, they looked harder at the “quantitative easing is working” part and decided they liked it. In reality, so much of the world had sold so many British pounds that they needed an excuse to buy them back. The sterling rally accelerated.

Once again the economic data had far less impact on sterling than did the Bank of England. It was not much different for the US dollar. In a shortened week after the Columbus Day holiday retail sales slipped by less than expected in September and inflation – sorry, deflation – eased to -1.3%. Federal Reserve branches in New York and Philadelphia came up with markedly different estimations of the manufacturing climate in their bailiwicks. New York’s index almost doubled from +18.9 to +34.6 while in Philadelphia the equivalent number fell from +14.1 to +11.5. US industrial production rose more slowly in September, by +0.7% and the University of Michigan consumer sentiment index fell from 73.5 to 69.4.

The Federal Open Market Committee, America’s equivalent of the Bank of England’s MPC, published the minutes of its latest meeting that really said very little that was new. Almost as if by the toss of a coin the market decided to sell the dollar, apparently because it had been expecting a more gung-ho analysis of the economic outlook.

The coming week is peppered with uncertainties for the pound. Tuesday’s figures for net public sector borrowing will show the government needing another £15 billion pounds or so. Wednesday’s minutes of the September MPC meeting will reawaken fears that more quantitative easing could be in the pipeline. Retail sales figures on Thursday will show how the consumer is faring. Top of the pile, and we will not see it until Friday, is the first estimate of how the UK economy performed in the third quarter of the year. Gross domestic product (GDP) has fallen by an average of -1.2% every three months in the last year. The forecast is that it will have risen by, well, not much in the three months to September. As long as it did, the newspapers will be trumpeting the end of the recession. If the number is less than zero it will qualify as new bad news and sterling will come under renewed pressure.

With so many important UK data to come in the next four days it is impossible to take a sensible view about sterling’s direction. Last week’s strong rally proved that the game is not up. Better-than-expected figures could extend the recovery but it is just as easy to imagine worse-than-expected data causing it to fall flat on its face. Buyers of the dollar should hedge half their requirement with a forward purchase. Those with a short time horizon who do not want to cover their whole exposure should at least protect themselves with a stop order.

For more information and expert guidance on the currency markets, call Moneycorp today on +44 (0)20 7589 3000, don’t forget to mention International Horizons to secure the best rates. Alternatively go to the Moneycorp website where you can open a free, no obligation Trading Facility.

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