Pound Made of Sterling Stuff

The dominant theme for this week is “risk-on” and this despite today’s session, so far, trading in a subdued range after another terrorist attack on French soil last night.

With investors willing to apply more risk, funds have flow out of fixed income and into stocks, pushing global indices to record new record high prints, sovereign yields to back up aggressively from their record low prints (US 10’s +1.54%, Bunds -0.26%) and risk aversion currency pairs to come under renewed pressure.

The Yen in particular has managed to keep capital markets on its toes. The funding and risk aversion currency of choice by many continues to slide on speculation of Bank of Japan stimulus. In the overnight session, USD/JPY has rallied another +1.5% to penetrate its psychological ¥106 handle, its strongest level since just before the U.K.’s EU referendum.

Expectations are building that on July 29 the Bank of Japan (BoJ) will finally introduce a new wave of monetary stimulus. The danger is that BoJ policy makers disappoint the market, just as Governor Carney did at the Bank of England (BoE) yesterday. The yen is heading for a weekly fall of over -5%, its biggest in 17-years.

With BoJ adviser Kawai stating that a weaker yen currency and recent U.S data made it hard to argue for “helicopter” money later this month – he does not see any reason for more easing in July. Will this affect the yen bear’s thinking?

1. Global stocks flat as sentiment takes a hit in Europe

It’s not a surprise to see some selling pressure after yesterday’s horrid events in France. After Asian bourses being supported by stronger than expected China data, European equity indices are trading lower ahead of the open stateside with the Nice attacks taking center stage on the news front contributing to some subdued selling pressure in the French CAC-40.

Naturally, the travel industry is bearing the brunt of this mornings selling pressure.

With JPMorgan posting a stronger than expected results on a trading surge is lending a helping hand for financial stocks in the Eurostoxx and in the FTSE 100. The one black spot in the U.K, both commodity and mining stocks are leaning on the index as commodity prices again come under pressure.

Indices: Stoxx50 -0.7% at 2,949, FTSE -0.5% at 6,624, DAX -0.3% at 10,036, CAC-40 -0.6% at 4,357, IBEX-35 -0.4% at 8,516, FTSE MIB -0.5% at 16,721, SMI -0.5% at 8,134, S&P 500 Futures -0.2%

2. Pound made of sterling stuff for now

The pound (£1.3419) is attempting to close out its best week in seven years as new PM Theresa May and Bank of England’s (BoE) aid its rebound.

A quick and rather efficient turnaround in appointing a new Prime Minister after Cameron decided to step aside on the EU referendum vote loss has returned a sense of political stability to the U.K.

The pound has strengthened against all its 31 major peers this week amid speculation that the BoE may take a less aggressive approach than was initially expected in its measures to contain the fallout from Britain’s decision to exit the E.U.

The BoE flatfooted the market yesterday by leaving monetary policy unchanged (+0.5% vs. +0.25% expected) at its July meeting. Despite the surprise, the MPC have given a clear signal that action will follow on Aug. 4 as evidence becomes available of the likely impact from the Brexit vote.

For sterling dealers, it’s back to the drawing board. With expectations of monetary easing in August, combined with the uncertainties in the aftermath of the U.K. vote to leave the EU, suggest that this support for the pound maybe short-lived?

3. Commodities

Despite crude-oil prices paring some of their last week’s losses, they continue to hover around its two-month low as a pick up in U.S. oil drilling activities and supply growth elsewhere supports the market view that a market rebalance will take much longer than expected.

August WTI futures currently trade at $45.23 a barrel, down -$0.43, while September’s Brent crude has fallen -$1.00 to +$46.90 a barrel.

Both grades are down more than -5% from a week ago.

Gold too is under pressure, down -0.2% in overnight trade and heading to close out the week with a loss of -2.5%.

On the plus side, Zinc has advanced +0.9% to trade near its highest level in 13-months, while copper is heading for its biggest weekly increase since March after China data bolstered the outlook for demand.

4. Low sovereign yield records on hold

U.S 10-year treasury’s (+1.54%), U.K gilts (+0.84%) and German bunds (-0.02%) trade lower this morning following the removal of uncertainty regarding the U.K’s conservative leadership.

This week we saw Tier 1 sovereign bonds snapping, for now, a record-setting rally as the early resolution of Britain’s leadership vacuum eased the flight to safety that was sparked by the Brexit decision.

The Brexit result has convinced the market to slash their global growth forecasts and predict more central-bank stimulus, resulting in lower global yields.

This time last week, U.S 10’s closed out Friday trading at new record low yield (+1.366%) and this despite a stellar non-farm payroll (NFP) print (+287%).

Another factor putting pressure on U.S Treasuries has been a full slate of new bond sales this week. U.S dealers needed to make room to take down 10-year and 30-year bond product.

Britain’s vote to leave the EU last month has been the latest catalyst to the downward spiral of sovereign yields to record lows.

5. China data supports risk rally

Despite China’s Q2 GDP print of +6.7% being a seven-year low it still managed to beat market expectations. Other releases saw industrial output hitting a three-month high (+6.2%), with the closely monitored power generation component rising over +2% after a flat print last month. Even June retail sales topped expectations (+0.9% vs. +0.8% m/m).

Crude steel output was down over -1% after a near-2% rise last month as the Chinese government continues to tackle overcapacity in the sector. Growth in fixed asset investment slowed further to a fresh multi-year low, as growth in property investment and construction all slowed. However, the closely monitored Yuan loans (¥1.3T) and Money supply (+11.8%) all beat expectations, with the former printing a five-month high.

Speaking after the data release, Stats Bureau spokesperson Sheng said the structural adjustment in China economy has accelerated with growing dependence on “domestic demand.”

It seems that a record stimulus is doing what it’s suppose to be doing and lending some stability to the world’s second largest economy.

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Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell