Understanding the FX Markets in 2018

Transcription

1 Understanding the FX Markets in 2018

2 MARKET SUMMARY 2017 focused immensely on world political events, namely; UK snap election, Donald Trump s economic policies and a host of European elections. As the global economy and financial markets digest the ramifications of these events, 2018 is shaping up to be an even more eventful year. The US interest rate hike has firmly paved the way for serious discussion of other central banks contacting their expansionary monetary policy. Furthermore, we are most definitely approaching the business end of the Brexit negotiations which is inevitably going to bring its own volatility to the markets given the infighting we are seeing within the UK government. Across the pond, with President Trump having served his first year and the debate for fiscal reform heating up, it is safe to say further dollar volatility is inevitable not to mention the changing of the guard for the chair of the Fed. This currency review gives a brief overview of the second half of 2017 and key events that have driven FX markets. We start by looking at the major currency blocs that typically impact our clients and then look to summarise the key events which could impact the FX rates for the year ahead. Looking back at 2017 Last July saw the start of the Brexit negotiations which initially got off to a shaky start with British cabinet ministers struggling to reach a consensus over the divorce terms with the EU. The losses realised by the pound in June were also further exacerbated after the Bank of England took the decision to leave the base rate unchanged at 0.25% in response to weak inflation. However sterling rebounded in August to hit an almost one-year high against the dollar when the Bank of England delivered tone with strong forward guidance. Sterling gains were also reinforced after rumours of Boris Johnson s resignation as Foreign Secretary, a change which would free May s hand in pushing through a softer Brexit. With sluggish progress being made in the negotiations, investors eagerly awaited the Prime Minister s speech in Florence where she would reflect on the three key outstanding issues, namely; citizens rights, the Irish border and the size of the divorce bill. With her leadership under serious question, December saw the prime minister scrambling to reach an agreement with the EU before the December 14 th deadline. Eventually the deadlock was broken after the UK government finally struck a deal on the Irish border after months of dispute with the Democratic Unionist Party (DUP). The Euro had a turbulent second half to the year where the positive economic outlook was marred by political unrest. Catalonia sought independence from Spain, Greece had its first successful bond launch in three years and German Chancellor Angela Merkel lost ground after twelve years as one of the EU s most prominent leaders. The euro made significant ground against the dollar after the markets reacted to hawkish comments by ECB chief Mario Draghi as he regularly praised the eurozone s economic recovery on the back of positive data.

3 Looking ahead into 2018 GBP With the pound having enjoyed a successful end to 2017 and a positive start to the year; it will be interesting to see if sterling can shake off the inevitable volatility from Brexit to continue its upward trend towards the pre-brexit era. Furthermore the implications of a contractionary monetary policy in the UK and in Europe is no doubt going to be firmly watched by investors, especially given further political elections in Europe. In addition, the new Chair of the Fed will be closely watched to see to what degree the Central Bank remains autonomous from government and also what the policy outlook will be and how this will defer from the Fed leaders of the past. The recent sufficient progress that has been made in the Brexit negotiations will now need to be transformed into a legal text that will underpin an official withdrawal agreement. Although the deadlock has been broken there are still plenty of details to be clarified; in particular over the Irish border agreement. Formal talks on a post-brexit transition period are scheduled to take place at the end of this month. Theresa May is expected to deliver another key speech later in the year which is likely to be on par with the one she gave in Florence last September. Investors are hoping that this time around she will shed more light on what sort of relationship the UK wants with the EU following Brexit, however this is dependent on EURO The outlook for the first half of 2018 for the Eurozone seems optimistic amongst economists despite concerns over the labour market and wage growth. Government finances have improved thanks to high levels of economic growth and low levels of interest rates. The European Central Bank announced that asset purchases will continue until at least September 2018, but at a reduced pace of EUR 30bn, compared to EUR 60bn through to December Interest rate rises are not expected to follow until the second half of the year. Analysts however have warned about the political risks a consensus being reached within the Conservative cabinet after months of infighting. In addition, the finer details of a future relationship still remain a grey area as the UK government is not expected to address key underlying issues, such as trade and security until early April. Another key factor impacting sterling is the Bank of England s outlook for UK interest rates. Markets remain divided over the future of monetary policy having priced in the possibility of a rate hike after May at 50%. With the British economy undergoing a period of stagflation, many investors have predicted a 0.5 percentage point increase in the base rate later this year. With inflation running well above the bank s 2% target, many analysts have contributed the recent surge in inflation on one-off factors, such as the sterling weakness resulting from the Brexit vote, and rising oil and commodity prices. However those with a more dovish outlook have argued that the bank should take into consideration the impact of the Brexit vote on activity before tightening policy. Regardless of the split between economists, it is the current upward trajectory of the UK economy coupled with the recent pick-up in wage growth that are likely to be the two key determinants of the Bank Of England s next move. which Italy is facing after their parliament was dissolved by President Sergio Mattarella on 28 December The general election was held on 4 March 2018 and is deemed significant as Italy was one of the founding members of the EU and is its third largest economy. But in recent years euroscepticism has been on the rise, as discontent about a deep recession, weak recovery and the migration crisis on the country s southern shores grows. Silvio Berlusconi s centre-right party, Forza Italia (FI) is ahead in the polls.

4 DOLLAR 2017 proved to be a turbulent year for the dollar falling from fourteen year highs reached in February The dollar s fall was driven by the lofty optimism set by investors in 2016 and that Donald Trump s economic policies would stimulate the USD economy and drive growth. However this was not to be the case as it took until December before the US president would score his first major policy victory, delivering sweeping and historic tax cuts to Congress. Throughout the year Trump s presidency was plagued by scandal and political infighting. The Dollar was dragged lower by Trump s inability to overhaul Obama care, making investors nervous that he would also be unable to deliver on campaign promises to deliver fiscal and economic stimulus. Federal Reserve Bank raised US interest rates three times, off the back of strong economic growth and low unemployment. With US gross domestic product (GDP) rising at a better than 3% annual rate in the second and third quarters and unemployment dropping to as low as just 4.1% in October. With three interest rates rises already forecast in the US in 2018, a strong focus for the dollar will be on the newly elected Chair of the Federal Reserve Jerome Powell. Handpicked by Donald Trump to implement monetary policy, Powell s mandate to keep inflation in check may come at odds to President Trump s vision for stronger economic growth and lower unemployment. Another key component that could drive the movement in the dollar is Trump s stance on North Korea and if further sanctions drive Kim Jong-Un to push for more radical nuclear advancement. To discuss any of the topics within this document please contact RationalFX and a dedicated dealer will work with you to manage your currency exposure. RATE ALERTS Sign up to an account with RationalFX and take advantage of our rate alert tool to take the pain and hassle of constantly worrying about impactful market movements. Our exchange rate service is free, aimed at being your eyes and ears in the market. KEY EVENTS MARCH MAY Italian Election Fed Meeting BOE Super Thursday Fed Meeting BOE Super Thursday APRIL JUNE FOMC Meeting Minutes ECB Press Conference & Minimum Bid Rate Fed Meeting BOE Super Thursday

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