All Eyes on UK as Sterling Comes Under Renewed Pressure

currencies on ferris wheel marc

  • After the dollar softened on Monday, a Turnaround Tuesday may be in the works
  • The BOE cut the capital buffer for UK banks to zero from 0.5% of risk-weighted assets
  • The BOE’s Financial Stability Report provided more color on its response to Brexit
  • During the North American session, the US reports June ISM New York and May factory orders
  • The RBA kept rates steady at 1.75%, as expected 

The dollar is firmer against the majors as tensions resume after the US holiday weekend. The yen is outperforming while sterling and the Aussie are underperforming. EM currencies are mostly weaker. CZK and HUF are outperforming while MXN and ZAR are underperforming. MSCI Asia Pacific was down 0.5%, with the Nikkei falling 0.7%. MSCI EM is down 1%, despite Chinese markets being marginally higher. Euro Stoxx 600 is down 1.3% near midday, while S&P futures are pointing to a lower open. The 10-year UST yield is down 6 bp at 1.39%. Commodity prices are lower, with oil down 2-3%, copper down 1%, and gold down 0.4%.

After the dollar softened on Monday, a Turnaround Tuesday may be in the works. Losses for the foreign currencies are being led by sterling, which made a new cycle low near $1.3115 today. Commodities and EM are lower, suggesting the risk off sentiment has returned to global markets.

The BOE cut the capital buffer for UK banks to zero from 0.5% of risk-weighted assets. The move is said to raise potential lending by GBP150 bln, and was widely expected after Governor Carney said that easing was likely over the summer. The next BOE policy meeting is July 14, and outright easing then seems likely as the BOE continues to act quickly and aggressively.

The BOE’s Financial Stability Report provided more color on its response to Brexit. It noted that “some risks have begun to crystallize” and added that the “current outlook for financial stability is challenging.” The committee said it is monitoring closely five key risks: 1) investor appetite for UK assets, 2) valuations in the commercial real estate market, 3) vulnerability of indebted households and landlords, 4) the global economic outlook, and 5) liquidity in the financial markets.

The UK reported services and composite PMI for June at 52.3 and 52.4 vs. 52.8 and 52.0 expected, respectively. It is difficult to determine the impact of the uncertainty ahead of the referendum. The economy was already gradually slowing. Carney had warned of significant downside risks in case of Brexit, and he maintained his sobering assessment last week.

Elsewhere, the 330 Tory MPs will use the first ballot to narrow the list of candidates to four from five. The candidate with the least amount of votes is dropped, with results expected at 7 PM local time. This process is repeated on Tuesdays and Thursdays until there are two candidates. Farage, the head of UKIP, resigned today and Labour leader Corbyn is facing a mutiny. The uncertain political landscape is doing sterling no favors.

The Eurozone reported services and composite PMI for June at 52.8 and 53.1 vs. expectations of 52.4 and 52.8, respectively. Looking at the country breakdown, Germany’s services and composite readings were 53.7 and 54.4 vs. 53.2 and 54.1 expected, respectively, while France’s were 49.9 and 49.6 vs. 49.9 and 49.4 expected, respectively. Eurozone retail sales rose 0.4% m/m, as expected.

Japan reported services and composite PMI for June at 49.4 and 49.0, respectively. Both weakened from May. This continues the string of soft economic data, which has fed notions of further stimulus from policymakers. Indeed, the 10-year JGB auction overnight drew a record low average yield of -0.243% vs. -0.094% at the previous auction.

Renewed tensions in the global financial markets have seen the yen gain today. USD/JPY fellto 101.65, the lowest since last Monday. Pressure continues to mount on the Bank of Japan to do something. Last week’s data showed price pressures are moving in the wrong direction, and despite a tight labor market, consumption is contracting. Any disruption emanating from Brexit does Japan no favors.

During the North American session, the US reports June ISM New York and May factory orders. New York Fed President Dudley speaks today. His comments will be very important, providing insight into the thinking of the Fed’s leadership.

The RBA kept rates steady at 1.75%, as expected. The statement was on the dovish side, noting that the appreciating AUD could complicate the economic adjustment. It noted too that inflation is seen remaining quite low for some time. All eyes are now on the RBA’s inflation report July 27 and then the next policy meeting August 2. Before the decision, Australia reported a wider than expected trade surplus and weaker than expected retail sales for May. The trade gap was –AUD2.2 bln vs. –AUD1.7 bln expected, while retail sales rose 0.2% m/m vs. 0.3% expected.

A combination of central bank intervention and renewed political concerns has hurt the real this week. Another round of reverse FX swaps was sold Monday, while police officers searched the offices of Eldorado Brasil Celulose just before the weekend in connection with the ongoing Carwash corruption investigation. Both developments are a reminder that the currency rally has become a bit overstretched of late.