by Adam Solomon
Sterling / Euro and US Dollar
The Pound rallied towards 1.63 against the U.S Dollar in the foreign exchange rate markets yesterday, amid speculation that the Bank of England will raise interest rates quicker than the FOMC. Ahead of the BoE minutes, which are released this morning, investors are speculating that the MPC will lift borrowing costs by 75 basis points over the next 12 months, while the Fed continue to show a reluctance to exit ultra-loose policy measures.
Although UK inflation has subsided in the latest monthly figures, consumer prices are still double the 2% target and all eyes will be fixed on the first quarter GDP data released next week. A positive return to growth after the fourth quarter contraction would prompt renewed speculation over a May/June rate increase and that would have a positive impact on the Pound.
The UK currency remained largely unchanged against the Euro, after reports showed that manufacturing in Germany unexpectedly improved last month, increasing the probability of further rate increases by the European Central Bank. The single currency also made gains versus the higher-yielding currencies such as the Australian and New Zealand Dollar, as a decline in Asian stocks quashed demand for riskier assets.
The Pound fell against the Euro for the first time in four days, despite concern that Greece will struggle to contain sovereign debt and default on its repayments to creditors. However, the European Central Bank are still likely to continue raising interest rates this year and at a faster pace that the Bank of England and U.S Federal Reserve.
The Euro is expected to remain strong against the majors and find decent support from interest rate differentials over the coming months, despite the ongoing concern over sovereign debt issues in the peripheral Euro-zone countries with high budget deficits. The UK currency weakened from a high just above 1.14 to 1.1340 during the Asian trading session overnight.
The timing of a potential interest rate increase from the Bank of England will depend on the return to growth in the first quarter and the next consumer price index for April. The Pound found support below 1.6250 against the Dollar before moving higher through the course of the day, but there will be continued unease over the UK banking sector developments.
Euro / US Dollar
The Euro exchange rate encountered strong support in the region of 1.4220 against the Dollar and rallied strongly through the course of the day, amid a revival in risk appetite, which reduced the appeal of the Dollar as a haven. The U.S housing data recorded a sharp increase in the number of new builds to an annual rate 0.55mn for March and there was a stronger increase in building permits.
The overall impact on the Dollar was limited, however, as the rise in commodity prices and higher-yielding assets took centre stage. Medium-term expectations that the Federal Reserve would maintain a very accommodative policy following the end of the current quantitative easing scheme. Interest rate differentials will continue to undermine support for the Dollar, especially in an environment where risk appetite is strong.
In the Euro-zone, the PMI data almost in line with expectations, although services sector component was slightly lower-than-expected. The structural vulnerabilities within the Euro-zone will continue to be an important influence on the market, amid fresh doubts over Spain and the restructuring of Greek debt.
GER 07:00 – Producer Price Index (March)
U.K 09:30 – Minutes of April MPC Meeting
U.S 15:00 – Existing Home Sales (March)