Currently viewing the tag: "BoE"
View: Economic weakness more of a risk for GBP than Gilts, like duration
The timing of Nigel Lawson’s observation that George Osborne should relinquish his role as chief Conservative chief party strategist to focus on the more important role of Chancellor has proved to be rather well timed with this morning’s first look at Q2 GDP showing the UK economy shrank at a dire -0.7% q/q rate, well below the median forecast of -0.3% q/q, leaving y/y growth at -0.8%. Ouch. The market was quick to seize on the positives, citing the Jubilee effect which most seem to think knocked 0.5% of the quarterly growth reading not to mention the rain which lasted a lot longer than that extended weekend. But this doesn’t alter the fact that the reading missed the median guess (who knew about the bank holiday and might have also looked out of the window at some point in Q2) by a significant margin and leaves us with three consecutive quarters of contraction in this double dip.
Full report below…
View: BoE demand to keep back of the curve steep, close 30yr-10yr flattener
It wasn’t a great surprise to see the BoE dust of its tool bag this morning, delivering a further £50bn increase in its asset purchase programme while leaving base rates on hold at 0.50%, as we and pretty much the rest of the market expected. There had been some calls for more (£75bn), as a signal of intent really, but the bank doesn’t look particularly constricted by delivering ‘just’ another fifty which will be deployed over the next four months, bringing the printing cycle back into line with the quarterly inflation reports. We were disappointed as to how this cash will be disbursed, evenly across the existing maturity buckets when we’d been hoping for some additional duration. It will be interesting to see how this impacts liquidity, currently the BoE won’t buy bonds once its holdings hit 70% of outstanding stock, the GBP375bn QE programme in comparison is equivalent to around 37.5% of UK debt stock.
Full report below…
View: Investors will reward measures for growth, see any Fed easing as DXY positive
Often the market makes demands on policy makers and often they are unwarranted, triggered by swings in short-term sentiment rather than changes in trend. However the monetary policy decisions we’ve seen over the past week or so seem to be somewhat different, highlighting a number of key issues that run deeper and are likely to have prolonged implications for markets and possibly mark the trigger point for the breakdown of some of the relationships that have driven markets since the onset of the financial crisis. More specifically we think we could be at that point where growth steps into the driving seat as investors focus more directly on debt sustainability. Central bank stimulus, or lack of it, should also be seen in this light. The impact of resultant interventions are also likely to differ to the inflationary effect we saw previously, be it equity prices or commodity moves.
Full report below…
View: Cable has further to fall, 1.5360 support should be tested
Much has been made of the UK government’s admirable programme of fiscal consolidation, creating something of a first mover advantage for the gilt market in particular – yields performing far more closely to bunds over the past eighteen months than to those markets where Britain shares closer fiscal dynamics, i.e that border the Med. Even ‘core Europe’ France has found itself under fire in the market – banking problems and ratings downgrade rumours abounding – to which it has responded with a more vigorous fiscal programme.
We’ve been a little more sceptical in Chancellor Osborne’s wonder package however (see our story from Aug 11th UK safe haven status ignores lurking macro problems, http://wp.me/p1G1Fr-91), believing that while the UK may have won some breathing space, shielding it from any peripheral contagion, the assumptions that formed the basis of the plan were just as flawed as any Greek fiscal projection. The crux of the problem remains growth assumptions with nearly half the budget tightening outlined coming about through higher tax revenues from a larger economy. Growth has disappointed consistently since the final quarter of 2010 blowing a hole in this argument, and over the course of the summer looks to have deteriorated even further. The Bank of England minutes from the September 8th meeting serves to highlight the scale of the problem, suggesting that if the recent run of weak data persists there would be a stronger case for a further round of quantitative easing (market looking for another £50bn on top of the £200bn already deployed). The market has begun to price this in as done.
Newswires focus may still be elsewhere at the moment but the market does seem to be finally sensing that Osborne’s honeymoon period is ending. This can be seen on the chart above where 5-year gilt yields are once again trading above Germany and while still under troubled France it should be noted that the recent patch of French bashing in markets hasn’t translated to any further outperformance for gilts. In fact 5yr UK/FR spreads have come in by nearly 30bps since early August even though yields in nominal terms have performed well.
The same can be said for Sterling’s earlier resilience which has similarly evaporated over the past few weeks. Cable continues to head towards the GBP/USD1.55 level we outlined at the start of last month (even if it did move a little higher than we’d anticipated first) from where the more important support area around 1.5350 comes into play. This line needs to hold to avoid a move down into the 1.4800/30 area which should be the ultimate goal of sterling bears and their fundamentals arsenal. Cable shorts ought to look to hold out while resistance at 1.5900/5930 remains intact in the first instance; those with deeper pockets should be happy to continue fading rallies right back to the mid 1.61’s (where mid-term moving averages are congregating) which ought to mark the top of the wider – and descending – trading range.
Touching on EUR/GBP briefly, the picture looks a little more constructive from a GBP perspective, the short and medium- term picture is soft for the cross with room for sterling to recover back to the 0.84/0.85 area into year-end, 0.88 being the immediate cap on the topside. But to look for anything more substantial for the pound looks optimistic even in an environment where the broader euro story is so negative.
Sterling has been trading rather steadily in FX markets while Gilts have actually found themselves in something of a sweet spot of late, avoiding any fallout from the US ratings downgrade and the maelstrom sweeping the Eurozone. What gives? Looking at the macro data there is little to cheer about in the UK, H1 GDP growth was anaemic and more recent data shows manufacturing struggling – in part due to weak exports, which also showed up in the trade numbers – and the consumer lethargic. The latest quarterly inflation report reminded of this with the Bank of England revising down its expectations for 2011 growth from 1.8% to 1.4%. Even this looks rather optimistic given current global momentum and the effects of the government’s fiscal programme. Recent rioting is also likely to be bad for confidence not to mention place some doubts of the viability of some of the administrations spending plans.
For the moment the coalition is still receiving a dividend from its early pledge to reign in the budget deficit, which to date it has stuck to. But risks of slippage are rising, impacted not just by recent events on the ground but also what looks to be a slower overall recovery at home and abroad. Indeed, government budget forecasts were based on growth assumptions of 1.7% in 2011, 2.5% in 2012 and 2.9% in 2013 (OBR March 2011) which look wildly optimistic given the pressures elsewhere. These assumptions also presumed recovery would be driven by strong investment growth and a much improved export performance. This idea is flimsy given the need for further deleveraging in the developed world which will weigh on confidence.
Markets are still optimistic however, underlined by the dip in yields we saw following the release of the BoE’s August inflation report; slower growth seen helping keep inflation down and bank base rates low for an extended period. They have even been outperforming mighty bunds. Although we think gilts are expensive it seems a little futile to bet aggressively against them for the moment. But as we’ve seen, confidence can evaporate rather quickly; evident by how quickly Italy was drawn into the solvency debate (despite running a primary budget surplus) and this week French markets have come under pressure thanks to banking concerns and fears for the country’s AAA rating.
The currency looks perhaps a better way of playing potential UK risks. Not only should the GBP be vulnerable if fiscal worries cross the channel but ought to suffer if we see any further increase in overall risk aversion. We were a little premature in our earlier bearish call on cable at the beginning of July, when the cross was back at 1.5968; although it worked for a few days. Nonetheless, the mid-term picture still looks bearish on our charts with recent highs (1.6471/78) a good zone to lean on now. GBP/USD has softened up quite a bit this week already and we’d prefer to be a little patient before opening shorts despite extreme volatility seen across equity markets. 1.6270/1.6320 is the first selling area leaning on the July highs, against a current 1.6186 spot rate, looking towards 1.5790/1.5800 as the initial target and a mid-term objective of sub 1.5500.
Related articles
- A sterling safe haven (ftalphaville.ft.com)
- UK Treasury chief seeks to calm slow growth fears (seattletimes.nwsource.com)
The ECB reaffirmed its inflation fighting credentials, raising rates a further 25bps to 1.50% at its July meeting, as we expected. Governor Trichet’s term may be drawing to a close (November) but there was no sign of any mellowing in his tone, reminding at this afternoon’s press conference that monetary policy is still accommodative and hinting that further tightening was needed despite the economic risks surrounding the seemingly never-ending peripheral debt crisis. There was at least one concession, the announcement that the ECB would suspend its minimum credit rating threshold for Portuguese bonds until further notice, citing recent fiscal steps. But there was little real slack for governments hoping for any substantial monetary tonic. The suggestion of higher rates was enough to tempt money back into the EUR, though the Euribor strip was little changed on the day suggesting FX traders might have got ahead of themselves. Overall the EUR/USD picture is modestly bullish, we’d expect most will look to continue plying the range here, which on our chart looks set at 1.4160 – 1.4590 for the moment.
This backdrop couldn’t contrast more starkly with the fortunes of the pound with the BoE holding rates again. There is little prospect of a hike this side of 2012 and given the patchy nature of the economic recovery even then the MPC is unlikely to be in that much of a hurry having sat through the current CPI hump. Sterling has already suffered on the back of the increasing spread between UK and Eurozone rates with EUR/GBP hitting 0.90 again. £8.00 cups of coffee (we won’t even contemplate what a beer costs) on the Cote d’Azur might be enough to persuade continental holiday makers EUR/GBP shorts are the way to go but it’s unlikely the pound will see anything but a short-term reprieve without a marked improvement in macro data.
2-year swap spreads suggest that there isn’t any floor under sterling; in fact the risk seems to be skewed to further weakness in trade weighted terms. Of the major crosses GBP/USD looks the more interesting prospect technically. The tone here is decidedly bearish sub 1.6140/60, in fact sub 1.6300 where TL and some of the more important longer-term moving averages are packed. The first downside objective is to crack the recent intra-day lows at 1.5911/14, a stone throw away now. Through there a run towards the 38.2% Fib line (1.5789) would be the aim. This needs to hold to avoid a deeper move back into the 1.5500 congestion zone and the Sep/Dec lows around 1.5350.
Related articles
- ECB increases interest rate by .25% to 1.5% (politics.ie)
- Interest differentials will worsen for the Pound – more than the market thinks (tradingfloor.com)
