Pound Mimics Yen as Losses Mount in Triple-Dip Peril
Comment of the Day

January 28 2013

Commentary by Eoin Treacy

Pound Mimics Yen as Losses Mount in Triple-Dip Peril

This article by Lucy Meakin for Bloomberg may be of interest to subscribers. Here is a section
Yields on 10-year gilts fell as low as 1.41 percent in July, before ending last week at 2.06 percent. The rate on similar maturity Spanish bonds has fallen to 5.17 percent from 7.75 percent in that period.

Draghi said the worst of the financial upheaval is over on Jan. 22, and the “darkest clouds” have lifted due to decisive policy steps last year, such as pledging to backstop debt markets and government measures to cut deficits.

“We are seeing some unwinding of all the euro-negative trades, just because there's a better perception of the crisis management,” Carlos Galvis, a money manager who oversees the equivalent of $8.1 billion at Carmignac Gestion in Paris, said in a Jan. 24 phone interview. “Sterling benefited quite significantly from those flows last year and I wouldn't be surprised to see the euro move higher against the pound as that unwinds.”

Foreign investors, including those from Britain, are snapping up European assets they abandoned through the debt crisis this year to harvest higher euro-area bond yields.

Eoin Treacy's view The UK demonstrated in 2008 just how much it was willing to allow the Pound to fall in order to cushion the domestic economy from the effects of the financial crisis. Since early 2009 the currency has been largely rangebound against the US Dollar and one can imagine that both the Bank of England and the government would like it to stay that way. It is currently pulling back from the upper side of this congestion area. A clear upward dynamic would now be required to question medium-term scope for additional lower to lateral ranging.

The Pound has been even weaker against the Euro of late. The cross rate encountered resistance near €1.30 in July and has held a progression of lower rally highs since. The pace of the decline has picked up over the last few weeks and is becoming increasingly overextended. However, a clear upward dynamic would be required to question momentum beyond a brief pause.

The performance of the FTSE-100 has been particularly impressive this month as it broke successfully out of the two-year trading range, helped by the weakness of the Pound and led by the financial sector. A considerable number of the UK's largest companies are hitting new 3-year to all-time highs not least Autonomies such as Reckitt Benckiser, Unilever, SAB Miller and Rolls Royce. Breakouts from relatively lengthy ranges can be quite powerful, not least when aided by a weak currency. However, as prices become increasingly more overextended relative to the 200-day MA, the first clear downward dynamics will warn that rallies are losing momentum prior to corrections . The performance of the UK's services sector is also particularly impressive. (Also see Comment of the Day on September 26th).

The Euro has gone from one of the weakest to one of the strongest currencies since the beginning of the month as its short covering rally continues. This has aided perceptions of upside potential among the region's stock markets and they continue to extend their advances led by the banking sector. As the Euro extends its advance the competitiveness of the region's export sector may be pressured. Since the vast majority of the Eurozone's banks generate most of their revenue from inside the zone they should be comparatively insulated from any effect of a stronger Euro and may in fact be some of the stronger beneficiaries. Spain's BBVA and Banco BPI, France's Credit Agricole, Soc Gen and BNP Paribas and Italy's Mediobanca and Unicredito Italiano have posted some of the most impressive rallies in the banking sector to date.

The Euro had been trending lower against the Swedish Krone since 2009 but has rallied since August to test the medium-term progression of lower rally highs and the region of the 200-day MA. A sustained move above SEK8.8 would challenge the consistency of the downtrend and suggest a return to medium-term Euro strength. In the financial sector, Swedbank, following a sharp draw down last week from the SEK140 area, has recouped almost the entire decline and a sustained move below SEK130 would be required to question medium-term scope for additional upside. In the construction machinery sector Atlas Copco completed a more than two-year range at the end of last year and a sustained move below the 200-day MA would be required to question medium-term scope for further upside.

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