It was a strange week for sterling. Monday was touted as the first day of a full scale rout but today (Friday) sees cable not much lower than where it was at the end of last week. It looks like Monday might have been just the final blow-off of the 61.8% retracement of the 1.35-1.70 bounce. Price action from the base was chaotic, down two big figures and back up one in the space of 15 minutes.
Sterling also tested technical levels against the EUR, just falling short of early-December’s high of 0.9152 in EUR/GBP. Most commentators were predicting further sterling weakness to the election and beyond. They cited the lack of agreed fiscal policy within a hung parliament, the probability of a resumption of quantitative easing (QE2!), post-Greece contagion, hedging implications of Prudential’s purchase of AIG’s Asian business, and “Jim Rogers says so”.
An exception to the bandwagon boarders was Steve Pearson, G10 FX strategist at Bank of America Merrill Lynch. On Tuesday morning, while acknowledging that the Prudential deal could trigger the purchase of up to $20 billion, Pearson was the first to point out that, as it was likely that funding for the deal was accomplished with the help of (dollar-based) Asian sovereign wealth funds, “there will be a largely offsetting GBP demand from international investors”.
On Wednesday Pearson noted that, “the perceived fiscal risks associated with a hung parliament in the UK continue to capture more column inches than they really deserve. Markets are not fretting over the UK fiscal position given CDS on 10-yr UK sovereign debt has fallen 10bps from 93bps to 83bps since last Thursday. Additionally it is notable that the Liberal Democrats continue to stress they will join a government committed to preserving fiscal stability. This, in our view, substantially reduces the negative implications for sterling of a hung parliament. Long GBP positions are starting to look attractive.”
As it turned out, with a 20% fall in its share price, closure of the Prudential deal came to be seen as less than definite; more polls were released that, although still implying a hung parliament, showed a greater vote share to the Conservatives. Thursday’s Bank of England announcement gave no surprises and importantly QE was still on hold.
If Pearson is right when he says that long GBP positions are starting to look attractive, the sterling bears will see it as good news: once the sterling downside trade is less crowded, downside pressure will resume. On a longer time horizon, Nick Beecroft – senior FX consultant at Saxo – sums it up well: “Tight fiscal, loose monetary – the traditional death-knell for any currency”.
I have always been something of a sterling bear. Maybe this prejudice is because I first made money out of cable by being short. Maybe it’s just that I learnt very early on how cable grinds up but tumbles down. Whatever. All I know is that the most memorable relevant anecdote I can remember is from the early days of the National Lottery. Nick Francis was running spot FX at BayernLB in London (he’s now at HSBC). He was asked what he’d do if he won a million quid: “I’d sell it” he replied, quick as a flash.
