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Sterling and Politics, a Volatile Mix!

Sterling and Politics; For decades Britain’s uneasy relationship with Europe has provided a backdrop for the pound that currency traders and economists have for the most part (aside from the UK’s brief dalliance within the ERM) been happy to ignore.

Back in October when I last discussed Sterling (Stg) and where it might trade against the Euro (Eur) into year end, I closed out my piece by saying that ‘’ longer term I expect politics to increasingly impact the pound and provide a stumbling block to deeper appreciation (sub.7750, towards .7500)’’.

It is clear to me that UK politics will indeed provide added uncertainty for Stg as we go through 2015, introducing a wildcard to forecasting the Eur/Gbp exchange rate that may well trump the obvious economic drivers.

What the data is telling us

The economic drivers themselves carry their own level of uncertainty, as we enter 2015 some are supportive of Stg while others are not. It is worth taking a moment to consider what the various indicators are telling us. If we could ignore political risks are the economic indicators collectively supportive or a drag on the pound? Let’s take a look at the table below:

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It is no surprise that not all of these economic factors are pointing in the same direction. While some (economic drivers) are less positive or in some cases outright negative for the pound, others are distinctly supportive. On balance I consider the indicators to be Stg positive and would expect them to support some mild Stg appreciation against the Eur from current levels (.7800) over H1 2015.

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Then politics intervenes

The outcome for the May UK general election is uncertain on a number of fronts – no one party may gain an overall majority, so the make up of the next parliament is difficult to predict and even forming a coalition government may prove to be challenging. The range of political outcomes adds to the uncertainty around an EU referendum and the vista of Britain leaving the European Union. The closer we get to the election the more this uncertainty will weigh on the pound, any indication that the outcome of the election will lead to greater certainty of an EU referendum or a strong showing by UKIP will disturb the City and what is perceived as bad for the City is normally bad for the pound.

However the political influence (some would say interference) is not restricted to the UK, the Eur will also be buffeted by the Greek elections, regional elections in Spain, Portuguese elections, as well as French regional elections. At this stage it would appear that all have the potential to disrupt the ruling Pro- European parties especially in the case of Greece where the anti austerity and anti Euro party Syriza are leading the polls ahead of a likely February general election.

However to show that nothing is ever what it appears in politics, while most economic and political pundits are in agreement that a Syriza victory would be negative for the Eur, the prospect of such a victory may mean a postponement of Sovereign QE until the outcome of the Greek elections are decided and this may provide a short term boost to the single currency.

So where is the pound likely to trade in Q1 2015?

I expect the FX markets in 2015 are likely to see a continuation and possibly an increase in the volatility that we experienced in 2014. I am concerned that short Eur (against most majors) is likely to be a very crowded trade as we enter 2015, yet aside from a delay in QE or an unexpected turn around in the Euro Zone economy, I cannot see any reason to be long the single currency.

I think that Stg will enjoy some strength against the Eur and a break of the key .7750/60 support may eventually see a move to .7500. However I believe the political uncertainty that surrounds Stg will see a weaker pound as we enter Q2 2015, I expect Stg to be close to .8000 as the parties go to the hustings.
As ever I welcome your views on where you think the pound may trade in 2015.

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