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Currency Market Analysis

Nov 26, 2020 | Currency Market Analysis

Global Themes

Is the pound running out of steam?

• Sterling steady after spending review
• Brexit talks remain deadlocked
• Crypto volatility soars

GBP

Sterling steady after spending review

Yesterday, UK finance minister Rishi Sunak announced plans to borrow funds not seen in Britain’s peacetime history to tackle the economic impact of the global pandemic. Sterling inched higher, largely supported by Brexit optimism, but also because of the relief that pandemic support persists.

The UK economy is on course to shrink by 11.3% this year - the largest fall in output for more than 300 years - before rebounding 5.5% in 2021. Government borrowing this year was 19% of the size of the economy, which is just under £400bn, although the amount of money it costs to fund that debt is also at a record low given where UK interest rates sit. For this reason, even if the UK holds a debt-to-GDP ratio over 100%, it might not prove “onerous by historical standards” according to the Office for Budget Responsibility (OBR).

• The OBR also expects unemployment to peak at 7.5% in the second quarter of 2021, representing 2.6 million people. Attention now turns to the how the Bank of England reacts next month for its final monetary policy meeting of the year.

Brexit

Brexit talks remain deadlocked

In just over a month, the UK will leave the EU’s single market and customs union, yet trade talks are still ongoing and frustration from both sides is beginning to mount. Sterling, a barometer of Brexit, remains suspended above $1.33 versus the USD and €1.12 versus the Euro – about 3% and 1% stronger respectively month-to-date.

European Commission president Ursula von der Leyen has warned that it is still impossible to say whether a deal will be agreed in time. UK PM Boris Johnson confirmed the transition period will not be extended. Hence, we find ourselves at an all too familiar Brexit inflection point as time grows short for an agreement to be ratified before year-end. There remains an air of optimism though and sterling looks poised to break higher from a technical perspective. However, there are warning signals in FX futures markets suggesting traders are bracing for greater GBP downside risk compared to GBP upside risk.

• One irony of a no-deal scenario unfolding is that UK-EU trade talks will likely rumble on at some point in 2021, after a cooling off period, in an attempt to form some sort of future relationship.

Crypto

Crypto volatility soars

One argument for the well-known cryptocurrency’s meteoric rise over the past few months is that Bitcoin is seizing the spotlight from gold as a hedge against inflation risk and a weaker USD in 2021. Bitcoin rallied to a new record high yesterday, just shy of $20k, but has tumbled sharply this morning.

The increased demand for riskier assets is also a possible reason for the surge in many cryptocurrency prices, including Ripple’s XRP token, though it too has plunged in price this morning. Professional investors are increasingly looking at cryptocurrency as a long-term investment and since the positive vaccine developments over the past few weeks, the search for yield has erupted. Increased risk appetite is reflected in the currency markets by revaluations of pro-cyclical currencies. Investors have dumped safe havens such as the JPY, CHF and USD and bought into riskier currencies like the NOK, AUD, and NZD.

• Many analysts are forecasting the USD to seriously weaken next year amidst an era of ultra-low interest rates, an abundance of liquidity and a rise in demand for alternative currencies.


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