FX market outlook

FX market outlook

Posted on Tuesday, December 11 2018 at 9:57 am GMT+0000

Brexit vote delayed and pound pays the price

  • US-China discuss trade talks schedule, but markets keep risk-off behavior
  • May delays Brexit vote in Parliament; pound drops below 1.26
  • Italian budget adjustments not ready yet

US-China discuss roadmap for trade talks

The Chinese Vice Premier, Liu He, is said to have exchanged views with the US Trade Representative, Robert Lighthizer and the US Treasury Secretary, Steven Mnuchin, on how to move trade talks forward on Tuesday, giving some grounds for optimism that a worsening trade war is not in the interest of either nation.

But given the widespread divisions over each other’s trade policies and the sensitivity of the issues, questions remain about how long it will take for the world’s two biggest economies to secure an agreement. And considering the bunch of disappointing data that was recently released out of several key economies and the doubts around the Fed’s rate hiking path in 2019, investors are not ready to invest in riskier assets yet, with US stocks closing with limited gains on Monday and Asian ones trading mixed early on Tuesday.

The US dollar was also weaker against six major currencies but marginally so as political concerns in Europe continue to support preference for the greenback. At the same time, the weakness in the dollar kept safe-haven gold elevated slightly above the $1,240/ounce mark.

Brexit vote in Parliament not happening today

In order to avoid an embarrassing defeat in the Parliament today, the UK Prime Minister, Theresa May, decided in the last minute to postpone the long-awaited Brexit vote, sending pound/dollar sharply down to an almost 20-month low of 1.2505. With ministers showing strong disagreements about the withdrawal plan agreed by May and the EU leaders, a negative vote was inevitable and May’s very position as Prime Minister was in danger. A strongly negative result could have put May in an untenable position at the EU summit scheduled between December 13-14.

But with the parliamentary vote now not expected before Christmas, May has the chance to ask for concessions from EU leaders, especially on the Irish border backstop, and seek for a plan that would please the majority of ministers in the homeland. If she fails ahead of the January 21 deadline indicated by herself, then a disorderly exit on March 29 will be the most likely outcome as the time for discussions is running out and a second referendum has not been supported much  by political parties. That could also trigger a no-confidence vote for May’s leadership and hence a pound-negative.

On the EU side, developments brought a new headache, with the President of the European Council, Donald Tusk warning that the EU will not renegotiate the deal and specifically the Irish border issue. Tusk is expected to meet May as soon as today according to EU officials, while May is expected to hold talks with the German Chancellor Angela Merkel today as well as with other EU leaders.

While the Brexit uncertainty continues to ride high, investors will likely shift some attention back to the calendar and to the employment report for the month of October. Expectations are for employment to have increased by 25k, slightly faster than the 23k rise in the previous month, while the three-month average weekly earnings and the unemployment rate are projected steady at 3.0% y/y and 4.1% respectively. A beat in the data may give a helpful hand to the pound, though gains could be limited in the face of Brexit uncertainty.

Italian budget concessions eyed this week

Meanwhile in the rest of Europe, Brexit is not the only problem as political concerns in Italy and to a lower extend in France weigh heavily in the sentiment as well, keeping the euro under pressure – euro/dollar keeps moving between 1.14 and 1.13.

In Italy, the government has not reached a consensus on the budget yet despite showing willingness to adjust its deficit targets after EU complaints, with the Vice President of the European Commission warning on Monday that little time is left for Rome to change its 2019 spending plans. He also threatened that the EU could move with disciplinary procedures that would potentially lead to fines and cuts of EU funds towards the Italian government if tweaks to the budget appear insufficient. On Wednesday, Italy’s Prime Minister, Giuseppe Conte will meet the President of the European Commission, Jean-Claude Junker in an attempt to avoid such consequences. Turning to France, President Macron is pushing hard to quell weeks of violent anti-government protests triggered initially by the announcement of new gas taxes. To restore order and stop demonstrations that caused severe property damage in the centre of Paris and left people dead, Macron pledged to increase minimum wages and introduce tax cuts for pensioners and overtime workers but declined to bring the wealth tax back into play – the tax his government scrapped in September last year.


Other highlights to watch

The German ZEW Economic Sentiment index for the month of December will come out at 1000 GMT and expectations are for the measure to stretch lower to -25, the lowest since August 2012.

In the US, the US Bureau of Labor Statistics will issue PPI readings at 1330 GMT ahead of CPI figures on Wednesday.

Staying in the US, the API weekly report on US crude inventories will be published at 1530 GMT, bringing volatility to oil prices.

In terms of public appearances, ECB Vice President Luis de Guindos will be delivering remarks at the European Statistical Forum organised by the European Central Bank in Frankfurt, Germany at 0830 GMT.

A one-day conference by the World Trade Organization on “Updating trade cooperation could attract interest during the day amid boiling trade tensions between the US and China.