Carney Inherits Pound's Potency as Bears Capitulate: Currencies
Comment of the Day

December 04 2012

Commentary by Eoin Treacy

Carney Inherits Pound's Potency as Bears Capitulate: Currencies

This article by Emma Charlton and David Goodman for Bloomberg may be of interest to subscribers. Here is a section:
Strategists are raising estimates for the pound faster than for any other developed-nation currency, signaling incoming Bank of England Governor Mark Carney won't be able to count on a weaker exchange rate to stimulate growth. Analysts increased their forecasts for sterling against the euro by 5 percent this year, even as Britain's economy headed for its first annual contraction since 2009. In a bullish signal, traders have cut the premium paid on options to sell the pound versus the dollar to the least since 2009, after the U.K. currency outperformed the euro, yen and the greenback this year.

Carney, who takes over from Mervyn King in July, will be faced with a currency that has appreciated even as the Bank of England created an extra 375 billion pounds ($605 billion) since 2009 to buy bonds. The London-based central bank said last month that sterling's strength was undermining corporate earnings, while the government has said its plan to cut the deficit is running behind schedule.

“The BOE has already been talking about the strength of the pound in terms of U.K. competitiveness,” Melinda Burgess, a foreign-exchange strategist at Royal Bank of Scotland Group Plc in London, said Nov. 28. “This is likely to be an area that will be closely monitored,
particularly against the euro and if it's not changing, we may hear some more vocal noises.”

Eoin Treacy's view The UK imprived its cost competitiveness during the panicky stage of the credit crisis by allowing the Pound to collapse against the currencies of its major trading partners. That competitive edge has diminished somewhat over the last 18 months as problems in the Eurozone, USA and Japan contributed to the Pound looking more attractive on a relative basis.

The Deutsche Bank British Pound Trade Weighted Index broke out to new 42-month highs in April and has been consolidating above 80 since July. It has returned to test the region of the 200-day MA over the last few weeks and will need to in this region if the benefit of the doubt is to continue to be given to potential for higher to lateral ranging.

The Pound remains mostly rangebound against the Dollar and is currently rallying towards the upper boundary. A sustained move above $1.70 would be needed to suggest a return to demand dominance beyond the short term.

Against the Yen, the Pound found support in the region of the 2008 lows at ¥120 between September 2011 and May 2012 and has since held a progression of higher reaction lows. It has now rallied to test the medium-term progression of lower rally highs and is somewhat overbought in the short term. A sustained move above ¥134 would be required to suggest a return to medium-term Pound dominance.

The Pound tested parity against the Euro in early 2009 and held a progression of higher reaction lows until earlier this year when it successfully broke above €1.20. It encountered resistance in the region of €1.30 from July and has returned to test the region of the 200-day MA. A clear upward dynamic, similar to that posted in October, would be required to indicate the return of demand for the Pound in this area.

Continued pressure on the UK economy suggests the Pound is unlikely to be considered a particularly strong currency but it is firm against some of the more economically troubled currencies as a result of their individual weaknesses. While expectations are low and the banking sector has been subject to one scandal after another, the sector is outperforming the wider market.

The FTSE-350 Banks Index has been trending higher since August and a sustained move below 4075 would be required to question medium-term scope for continued upside.

The FTSE-100 remains largely rangebound and has rallied over the last few weeks to retest the upper side below 6000. The 5900 region has represented an area of resistance on a number of occasions since September and a sustained move above it will be required to confirm a return to demand dominance beyond the short-term.

Here is a list of FTSE-100 shares which have posted new highs in the last five days. A number of banks and financials made the list. I last reviewed UK listed S&P Europe-350 dividend aristocrats in Comment of the Day on October 17th and these companies make up a considerable number of those still hitting new highs. However, some, such as Diageo, are becoming increasingly overbought in the short term.

At the other end of the spectrum, the only share in the FTSE-100 to hit a new low in the last five days is Vodafone (6.78%). It has returned to test the lower side of its 2-year range and has steadied. A sustained move below 155p would be required to question potential for a bounce from here.

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