By Jaisal Pastakia, Investment Manager at Heartwood Investment Management
The euro’s resurgence this year (8% higher against sterling and 12% higher against the US dollar) has come on the back of an improving growth backdrop together with receding political risks, following the market favourable election results in the Netherlands and France. So far, the upcoming German election in September does not look to be a market concerning event, whichever one of the two main parties wins a governing majority.
Contrast improving events in Europe with the UK, where economic momentum looks uncertain. Monthly factory orders this year suggest that the sector is failing to capitalise from a weaker sterling and a pick-up in global trade. In addition, political uncertainty is weighing on the UK currency. Despite the UK Government softening its Brexit ‘red lines’ on the role of the European Court of Justice, sterling continued to fall this week.
Contrasting economic fortunes will most likely mean divergences in monetary policy. Investors have been pricing in the prospect of a reduction of monthly asset purchases from the European Central Bank. At the same time, in response to flipflopping comments from UK policymakers, investors have pushed out expectations of an imminent Bank of England interest rate increase until the first half of 2019.
The euro’s fortunes this year are also at odds with those of the US dollar. Positioning in the US dollar reflects investors’ pessimism about the ability of the Trump administration to make progress on its legislative agenda, particularly on tax reform. Meanwhile, the US treasury market remains sanguine on US monetary policy and does not appear to be pricing in more than one rate increase this year, contrary to current US Federal Reserve policymakers’ forecasts.
For now, we expect euro strength to be sustained against sterling owing to improving economic fundamentals in Europe; a narrowing interest rate differential; and continuing Brexit uncertainty that is likely to weigh more heavily on the UK economy.
However, continuing euro appreciation versus the US dollar is more questionable. The strength of the euro is a concern for the European Central Bank, which is endeavouring to lift inflation to target. Furthermore, investor positioning is extended in the euro versus the US dollar and potentially at risk of being unwound. We also believe that investors are probably too optimistic on the outlook for Fed policy normalisation. While the euro seems to be the market’s favourite for now, it is likely to see more mixed performance going forward – after having done so well.
World shares sink as bond yields, commodities surge
By Ritvik Carvalho
LONDON (Reuters) – World shares sank on Monday as expectations for faster economic growth and inflation battered bonds and boosted commodities, while rising real yields made equity valuations look more stretched in comparison.
MSCI’s All Country World Index, which tracks shares across 49 countries, was down 0.4% after the start of European trade.
The pan-European STOXX 600 index was down 1%, at its lowest in 10 days. Germany’s DAX, France’s CAC 40 and Spain’s IBEX 35 index fell 1% each, Britain’s FTSE 100 lost 0.85% and Italy’s FTSE MIB index fell 0.9%. [.EU]
S&P 500 futures fell to their lowest since Feb. 4, down 1% on the day. [.N]
Bonds have been bruised by the prospect of a stronger economic recovery and greater borrowing as President Joe Biden’s $1.9 trillion stimulus package progresses.
Federal Reserve Chair Jerome Powell delivers his semi-annual testimony before Congress this week and is likely to reiterate a commitment to keeping policy super easy for as long as needed to drive inflation higher.
“The coming week is relatively thin on the international data agenda, but after the recent rise in long bond yields, Fed Chairman Powell’s hearings in both chambers of Congress (Tuesday / Wednesday) will be attracting great interest,” said Elisabet Kopelman, U.S. economist at SEB.
“The fact that the most recent rise in long bond yields has been driven by higher real interest rates and not just inflation expectations increases the probability of a dovish message.”
European Central Bank President Christine Lagarde is also expected to sound dovish in a speech later Monday.
Yields on 10-year Treasury notes have already reached 1.38%, breaking the psychological 1.30% level and bringing the rise for the year so far to a steep 43 basis points.
Analysts at BofA noted 30-year bonds had returned -9.4% in the year to date, the worst start since 2013.
“Real assets are outperforming financial assets big in ’21 as cyclical, political, secular trends say higher inflation,” the analysts said in a note. “Surging commodities, energy laggards in vogue, materials in secular breakouts.”
Earlier in Asia, MSCI’s broadest index of Asia-Pacific shares outside Japan went flat, after slipping from a record top last week as the jump in U.S. bond yields unsettled investors.
Japan’s Nikkei recouped 0.8% and South Korea 0.1%, but Chinese blue chips lost 1.4%.
A COPPER-PLATED RECOVERY
One of the stars has been copper, a key component of renewable technology, which shot up 7.7% last week to a nine-year peak. The broader LMEX base metal index climbed 5.5% on the week.
Oil prices have gone along for the ride, aided by tightening supplies and freezing weather, giving Brent gains of 22% for the year so far. [O/R]
On Monday, Brent crude futures were up 0.7% at $63.33 a barrel. U.S. crude added 0.7% to $59.65.
All of that has been a boon for commodity-linked currencies, with the Canadian, Australian and New Zealand dollars all higher for the year so far.
Sterling reached a three-year top at $1.4050, aided by one of the fastest vaccine rollouts in the world. British Prime Minister Boris Johnson is due to outline a path from COVID-19 lockdowns on Monday.
The U.S. dollar index has been relatively range-bound, with downward pressure from the country’s expanding twin deficits balanced by higher bond yields. The index was last at 90.342, not far from where it started the year at 90.260.
Rising Treasury yields has helped the dollar gain against the yen to 105.60, given the Bank of Japan is actively restraining yields at home.
The euro was steady at $1.2104, corralled between support at $1.2021 and resistance around $1.2169.
One commodity not doing so well is gold, partly due to rising bond yields and partly as investors question if crypto currencies might be a better hedge against inflation. [GOL/]
Gold stood at $1,793 an ounce, having started the year at $1,896. Bitcoin was off 3.3% on Monday at $55,535, but started the year at $32,216.
(Reporting by Ritvik Carvalho; additional reporting by Wayne Cole in Sydney; editing by Larry King)
Sterling steadies around $1.40, long positions at one-year high
LONDON (Reuters) – The pound hit a new three-year high of $1.4050 in early London trading on Monday, before stabilising around the $1.40 level, as bullish investors bet on the UK’s vaccination rollout bringing about an economic recovery.
Sterling rose to its highest levels since April 2018 when it crossed $1.40 on Friday, having risen 2.4% so far in 2021.
Analysts attributed the recent strengthening to the UK’s relative success in providing COVID-19 vaccinations, which is expected to help Britain’s economy rebound from its biggest contraction in 300 years.
Relief that a no-deal Brexit was avoided at the end of 2020 is also supporting the pound, as is a lessening of fears that the Bank of England could introduce negative interest rates.
Speculators added to their net long position for the third week running in the week to Feb. 16, CFTC positioning data showed. The market is at its most bullish in one year.
At 0839 GMT, the pound was at $1.3992, down 0.1% on the day. Versus the euro, it was up around 0.2% at 86.42 pence per euro, having touched a one-year high earlier in the session EURGBP=D3>.
“The move higher in cable this year has been primarily driven by pound strength rather than US dollar weakness,” wrote MUFG currency analyst Lee Hardman in a note to clients.
“If the highs from April 2018 are taken out it will encourage expectations that the pound is adjusting to a new higher equilibrium now that Brexit risks have diminished,” he said. “Whereas if those highs remain in place, market participants may then start to question whether recent pound strength is overshooting and thereby increasing the risk of a correction lower.”
British Prime Minister Boris Johnson will set out a plan on Monday to release the UK from its third national lockdown.
Some 17.6 million people, over a quarter of the 67 million population, have now received a first dose of a COVID-19 vaccine. The UK is behind only Israel and the United Arab Emirates in vaccines per head of population.
The yield on British government bonds jumped on Monday, boosted by the prospect of heavy U.S. fiscal stimulus and the UK economy reopening.
“Markets are still adjusting to the fact that the Bank of England is unlikely to implement negative rates for now, leading to a narrowing of the US-UK 10-year yield differential,” UBS strategists wrote in a note to clients.
(Reporting by Elizabeth Howcroft; Editing by Bernadette Baum)
FTSE 100 falls as inflation concerns weigh
(Reuters) – London’s FTSE 100 fell on Monday as higher commodity prices sparked fears of a spike in inflation, while investors awaited Prime Minister Boris Johnson’s plan for a phased easing of business restrictions.
The blue-chip FTSE 100 fell 0.6%, led by declines in consumer staples and industrials stocks.
Oil heavyweights BP and Royal Dutch Shell dipped 0.1% and 0.3%, respectively, despite higher crude prices. [O/R]
Johnson will plot a path out of COVID-19 lockdown on Monday in an effort to gradually reopen the battered $3 trillion economy, aided by one of the fastest vaccine rollouts in the world.
The mid-cap index fell 0.3%, led by declines in financials and industrials stocks.
British Airways-owner IAG rose 1.1% after it said it raised total liquidity by 2.45 billion pounds ($3.4 billion), reaching final agreement for a 2-billion-pound loan, and through a deal to defer 450 million pounds of pension deficit contributions.
Pub operator Mitchells & Butlers shed 0.5% as it reported a plunge in sales due to all its sites having been forced shut under the latest lockdown.
(Reporting by Shivani Kumaresan in Bengaluru; editing by Uttaresh.V)
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