UK Market Wire: Potential Euro Selloffs and a Strengthening USD Buoy Markets

GBP Market Outlook

Last week was all about central banks as the Federal Reserve, Swiss National Bank, and the Bank of England (BoE) all hiked their interest rates at varying degrees. The GBPEUR pairing dipped lower but managed to recover its composure after the BoE rate hike.

This week will see a plethora of speakers from the BoE. Not only did Haskel and Mann speak today, but we will hear from Pill and Tenreyro on Tuesday, Cunliffe Wednesday and Pill and Haskel on Friday. The context from these speakers will give the Bank the ability to clarify exactly how they want to position the latest 0.25% interest rate hike – particularly, since last Friday, Bank economist Pill said that they couldn’t be too aggressive with interest rates so as to not trigger a recession.

This Thursday, the by elections of Wakefield and Tiverton will be held. If, as expected, the Tory party are handily beaten, a change of Prime Minister becomes more likely – which could result in a selloff of sterling.

We also have the release of first reading manufacturing and services PMI readings on Thursday, and retail sales on Friday. The market will be cautious of the PMI readings, as they’re moving lower and approaching the important 50 level. These levels denote whether the economy is contracting or expanding and a dip below 50 could encourage some sterling selling.

Retail sales for April saw a 1.4% gain, which is uplifting news on the heels of a 1.2% decline in March and a 0.3% February decline. Analysts are suggesting a 0.6% decline for May, which traders are cautiously keeping an eye on since anything worse than this level could encourage pound selling again.

On a technical basis GBPUSD has resistance at 1.2387/1.2667 and 1.2788. GBPEUR continues to trade in a 1.1400 to 1.2200 range.

EUR Market Outlook

At the last ECB meeting, President Lagarde predicted that euro interest rates would rise by 0.25% in July, with possibly an even bigger hike in September, if the ECB decided that the inflationary situation warranted it. While these statements initially supported the euro, Madame Lagarde declined to outline what the ECB would do if the bond yield spreads between Sovereign nations increased. As a result, markets immediately reacted, taking those spreads to 8 year highs with the difference between German and Italian yields jumping to 250 basis points.

This kind of reactionary result is referred to as fragmentation risk. Markets are typically alarmed by these moves because they mean that governments (specifically the Italian government, in this case), will be obligated to pay a higher rate of interest on its borrowings than Germany. Governments are usually hesitant to take these steps, resulting in even more selloffs of euros in the market.

In response, the ECB hastily convened an ad hoc meeting to announce a product to control this risk fragmentation, and it was later announced that the ECB would use this new product, once it has been designed, to reduce the spreads at as-yet-undetermined certain levels. Nevertheless, this has helped to stabilise the euro against the US dollar but ultimately the EURUSD pairing has been unable to trade above an important looking resistance at 1.0787. Further, with Russian gas supplies reducing, EURUSD is currently prone to declines.

Last week, the price for that pairing traded at 1.0358 last week, only 17 points above the important technical level of 1.0341. If the price were to trade below these levels, it would signal a new low for the year, and on a technical basis, open a possible new wave of EURUSD weakness.

Eurozone PMI readings will be released on Thursday and have generally been stronger than the UK readings – which could potentially put pressure on GBPEUR. Friday also sees the release of the German IFO business survey. This survey is often watched by market participants as a gauge on the German, and therefore Eurozone, economy. So far this year the survey figures have been in a decline, but markets are optimistic that they will recover slightly in May. Of course, any headlines on the new ECB ‘risk fragmentation’ product will be closely watched and reacted to, as well.

USD Market Outlook

Last week, the Federal Reserve decided to hike interest rates by 0.75%, in a decision that hasn’t occurred since 1994. Even though the Fed had a news blackout before they made their decision, the market had started to accommodate for such a large move, and US CPI hit 8.6% on an annual basis the week. In turn, this led to US dollar strength in the early part of the week, followed by dollar weakness as the Swiss National Bank and Bank of England hiked their rates 0.5% and 0.25% respectively.

Although today is a bank holiday in the US, this week will see main events such as the semi-annual testimonies from Fed Chair Powell in front of the Senate Banking Committee on Wednesday, and the House Financial Services Committee on Thursday. These events will be closely watched by the market as it’s expected that Powell will be asked what his plan is to contain inflation, whilst avoiding a recession… Not an easy task.

Further, we can expect US PMI readings to be released on Thursday, and important consumer sentiment on Friday. Overall, the market is very aware that the Fed is hiking interest rates faster and harder than all of its G7 counterparts, which could easily encourage investors to keep buying the US dollar.

Rest of the World

Inflation is 9% in the UK, 8.1% in the Eurozone and 8.6% in the US, while In Japan its sitting at 2.5%. Last week, the Bank of Japan’s Governor Kuroda this week made statements indicating that CPI was likely to stay around 2% for the time being, and was then likely to slow. He added that he would not hesitate to add more easing if necessary. Previously, the market had been concerned that the BoJ was going to slightly tighten its monetary policy. Now however, as they are insisting on maintaining their ultra-accommodative policy, the divergence/spread between US interest rates and Japanese interest rates is continuing to grow. As a result, investors are finding it more and more appealing to buy USDJPY and receive an increasing return.

Economic Calendar

Mon Jun 20

US Bank Holiday

00:10 AUD RBA Gov Lowe Speaks

09:00 GBP MPC Haskel Speaks

14:00 GBP MPC Mann Speaks

Tue Jun 21

01:00 AUD RBA Gov Lowe Speaks

02:30 AUD Monetary Policy Meeting Minutes

08:15 GBP MPC Pill Speaks

09:00 EUR Current Account

13:15 GBP MPC Tenreyro Speaks

13:30 CAD Core Retail Sales

Wed Jun 22

07:00 GBP CPI

09:40 GBP MPC Cunliffe Speaks

13:30 CAD CPI

15:00 USD Fed Chair Powell Testifies

Thu Jun 23

08:30 EUR German Flash Manufacturing/Services PMI

09:00 EUR ECB Economic Bulletin

09:30 GBP Flash Manufacturing/Services PMI

14:45 USD Flash Manufacturing/Services PMI

15:00 USD Fed Chair Powell Testifies

Fri Jun 24

07:00 GBP Retail Sales

09:00 EUR German IFO Business Climate

00:30 AUD RBA Gov Lowe

13:30 GBP MPC Pill Speaks

14:45 GBP MPC Haskel Speaks

15:00 USD Revised UoM Consumer Sentiment