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Yesterday was a good example of how quickly the markets can move on unexpected news. We started the day with GBP/EUR just above €1.14 after the Euro gained strength following the Dutch election result, however that all changed at lunchtime when the Bank of England made their announcement on interest rates.
As expected, the base rate was left at its record low of 0.25%. What was not expected was one of their policy makers, Kristin Forbes, voting for a rate increase. The other 8 members all voted to keep rates on hold so no change was made, however the fact that Ms Forbes dissented and voted for a rise in rates was all that was needed to give Sterling a decent shove, rising about 1% against the Euro as illustrated in the graph below:
GBP/EUR exchange rate graph
1 member voting for a hike isn’t enough to explain the Pound’s consolidating its gains, especially Forbes, who has voiced her hawkish stance in the past and is due to leave the MPC in June anyway. When you dig a little deeper and read the minutes to the meeting to see what was actually discussed however, it becomes a little clearer. The majority chose to leave rates on hold because they felt that consumers were becoming more cautious, coupled with slowing wage growth and rising inflation. However the minutes also said that with inflation rising sharply and only mixed evidence on slowing activity, it would take relatively little upside news on inflation or the economy for other members to consider that an immediate reduction in policy support might be warranted.
Translation: If inflation keeps rising and the economy continues to perform better than had been expected, other members might also vote for a rate rise. It’s this small snippet of the minutes that caused Sterling to hang on to its gains throughout the day. I don’t expect any change in policy to come any time soon however, so those hoping that a rate hike will push the Pound higher still will probably be waiting for quite some time.
Putting the current Pound/Euro rate into perspective
Many people think that the current GBP/EUR rate is very low, but actually it’s been supported by a fundamentally weak single currency, due to concerns over populist voting in Holland and France. If it were not for this it would be much, much lower.
With the Dutch elections done and dusted many are asking if this will be a litmus test for the French elections in April/May. If a win for Le Pen starts to look less and less likely, this weakness in the Euro could evaporate and cause GBP/EUR to fall. If you look at other currency pairs like Pound/Dollar you will see that since the referendum the rate has fallen by around 20%. Pound/Euro on the other hand has only fallen by 12% due to the inherent weakness in the Euro that’s keeping the rate supported. If GBP/EUR had fallen by the same margin then we would currently be looking at a rate to buy Euros of about €1.04!
Volatile period ahead for Sterling exchange rates
With Brexit negotiations due to begin very soon, and the possibility of the Euro bouncing back if the French election polls show Le Pen losing support, you can see that there is a risk of a sharp decline for Pound/Euro rates. If Le Pen wins however and Brexit negotiations are seen as Sterling positive, we could see the rate back at €1.20. So, much going on affecting the currency markets at the moment and I expect a period of heightened volatility in the coming weeks and months. If you need to buy or sell a foreign currency, then get in touch with one of our expert brokers today for a free consultation.
What’s on today’s agenda?
Not much to get excited about today, with the only data of note being Trade Balance figures from the Eurozone, and some data from the states after lunch including Industrial Production data. Barring any surprise political developments, I think the biggest mover for the major currencies including USD, EUR and GBP will profit taking ahead of the weekend break, which may strengthen the USD and weaken the Pound in the afternoon session.
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