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Currency Market Analysis

Mar 31, 2020 | Currency Market Analysis

Global Themes

Sterling stalls, volatile day looms 

•China PMI boosts rebound hopes

•The turbulent month of March

•Will Brexit transition period be extended?

•Fall in oil hurting CAD and NOK

China PMI boosts rebound hopes

China's official manufacturing Purchasing Manager's Index (PMI) jumped back into expansion in March, a very encouraging sign hinting at a rebound in economic activity. However, investors remain sceptical of the uptick as many businesses are likely to be struggling to restart operations following the coronavirus-induced disruptions.

Even though China may see light at the end of tunnel, the rapid global spread of the virus is expected to keep foreign demand at bay for Chinese goods and therefore limit the economic rebound. Many analysts have slashed growth forecasts for China, including Oxford Economics who expect GDP growth to plunge 5% in the first quarter and grow just 1% in the whole of 2020 – vastly lower than the growth target of 6%. Lingering domestic demand weakness will continue to weigh on the recovery, while external demand will suffer from a serious drag in the months ahead, as the economic fallout of coronavirus has escalated rapidly outside of China.

Flash Eurozone inflation will be released at 10:00 and is likely to fall given the plunge in oil prices since mid-January.

The turbulent month of March

It's the last day of the month and quarter so we may witness some enhanced currency volatility as a result. The British Pound has already been taken on wild journey this month, falling 13.6% in eight trading days, hitting 35-year lows versus the US Dollar, 12-year lows versus the Euro and then recording its best week since 2009, recovering half of these losses.

The coronavirus pandemic has certainly shaken financial markets, causing volatility to soar to 2008/09 highs and even beyond, sending equity prices plunging, oil prices towards 2-decade lows and the US Dollar tearing higher before suffering its worst week since 1986. Last week, the Dow Jones also staged a rapid reversal, to the upside though, enjoying its biggest 5-day rally since 1974. Despite volatility easing off from multi-year and record-breaking highs, implied volatility remains unsettlingly high and actual volatility has even surpassed expectations. Despite the surge in central bank and government stimulus measures, underlying risks still threaten to destabilise financial markets. For example, ratings agency Fitch cut Britain's sovereign debt rating last week because the UK government ramped up its spending to offset the near shutdown of the economy in the face of the coronavirus.

Calm has returned for now, but going forward, the picture looks gloomy as recession looms. Sterling is still vulnerable as the UK’s current account deficit, Brexit and the worsening of Britain's public finances continue to cloud the economic outlook.

Brexit

Will Brexit transition period be extended?

Though coronavirus headlines are dominating, Brexit uncertainty is also simmering away in the background. The Europeans are calling for an extension to the Brexit transition period given little, if any, time is being spent on trade negotiations between the UK and EU. Prolonging the transition period makes sense in current circumstances and will lift the uncertainty hanging over business.

Post-Brexit trade talks were always going to be challenging and had proved a difficult task since they officially began in March. The time limit self-imposed by UK officials meant the tight timetable was already a worry to many businesses and investors. The pound tends to depreciate whenever the risk of no-trade deal increases and now coronavirus concerns overshadow these negotiations, the threat of a no-trade deal is rising, and sterling may suffer unless an extension to the transition period is agreed.

Under the terms of Britain’s EU exit deal, an extension of up to two years is possible if both sides agree to one before the end of June. This is likely to be welcomed by investors and prove positive for the pound.

CAD and NOK

Fall in oil hurting CAD and NOK

The world’s oil market is under significant pressure as the mammoth drop in consumption due to the coronavirus crisis combined with the Saudi Arabia and Russia price war is dragging prices to lows not seen in over 17 years. The currencies of oil exporting nations like Canada, Norway and Russia, are also weakening as a result.

Russia wanted prices to fall to hurt the US shale industry, which is certainly not economic at current levels of the oil price. However Saudi Arabia has pledged to ramp up exports as part of its price war with Russia. The double whammy of a demand collapse and unrestricted supply from Saudi and Russia, makes it hard to forecast a revival of oil prices any time soon. If oil prices continue to plumb new depths, the CAD, NOK and RUB are expected to depreciate too.

GBP/CAD has climbed over 6% in six trading days but fell short of recouping over 75% of its losses since the sharp drop from March 10, when coronavirus fears struck.


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