Market Info

USD up as stocks fall after Fed Powell testimony. GBP nervous ahead of EU Brexit draft proposals.

28/02/2018 | OzForex

Wednesday 28 February

Great British Pound
The GBP had another lurch lower on Tuesday morning as the implications of Opposition leader Jeremy Corbyn’s Brexit speech began to be more widely recognized. However, by the end of the European day, even though the GBP/USD rate was still down more than half a cent, the pound had recovered against most of the other currencies where long positions versus the US Dollar were being liquidated. EUR/USD fell to its lowest level in 2½ weeks, for example, whilst AUD/USD threatened to break below 78 cents. Overnight in Asia, the pound has edged a little lower and is back down in the high 1.38’s against the US Dollar.

The Brexit negotiations are the gift that keeps on giving for political sketch-writers but for businesses and investors the constant twists and turns in the plot are nothing but a major headache. UK International Trade Secretary Liam Fox was yesterday forced to launch a defence of the government’s Brexit trade policy after a former top official in his department dismissed it as the tactics of “a fairy godmother”. In a day of mixed metaphors, Sir Martin Donnelly - who was Dr Fox’s permanent secretary until last year - told the Today programme on BBC Radio 4: “You’re giving up a three-course meal, which is the depth and intensity of our trade relationships across the European Union and partners now, for the promise of a packet of crisps in the future if we manage to do trade deals outside the European Union which aren’t going to compensate for what we’re giving up.”

Today, the European Commission is set to publish a detailed draft withdrawal and transition agreement which is said to have more than 120 pages made up of 168 treaty articles and two protocols setting out the EU’s terms for Brexit to be negotiated over the next seven months. Well-sourced leaks suggest it will trigger a new row by designating “the European Court of Justice (ECJ) as the authority for the interpretation and enforcement of the withdrawal agreement”. The Prime Minister’s office is already briefing that she will not sign up to “anything that threatens the constitutional integrity of the UK”, and so another tricky day lies ahead for the pound.

US Dollar (USD)

GBP/USD expected range: 1.3830 – 1.3985

The big highlight of the day on Tuesday was new Fed Chair Jerome Powell’s first Congressional monetary policy testimony. Ahead of this, both stock index futures and the US Dollar traded pretty flat with the DJIA around 26,700 and the USD index at 89.60. The testimony was a two-stage process with the text released around 08.30 Washington time but the hearing not beginning until 10.00am. In many ways, the market reaction was similarly two-staged: stocks and bonds initially decided there was nothing fresh at all in the prepared remarks but by the end of the testimony, markets had decided Mr Powell’s comments were a bit more hawkish. The USD index hit 90 for the first time in 2-weeks whilst 10-year bond yields backed up to 2.92% and the DJIA closed down more than 200 points.

Mr Powell said that, “While many factors shape the economic outlook, some of the headwinds the US economy faced in previous years have turned into tailwinds: In particular, fiscal policy has become more stimulative and foreign demand for US exports is on a firmer trajectory. Despite the recent volatility, financial conditions remain accommodative. At the same time inflation remains below our 2 per cent longer-run objective [although] some of the shortfall in inflation last year likely reflects transitory influences that we do not expect will be repeated. Consistent with this view, some of the monthly readings were a little higher toward the end of the year than in earlier months… The FOMC will continue to strike a balance between avoiding an overheated economy and bringing PCE price inflation to 2 per cent on a sustained basis.”

Though rising long-term interest rates and recent equity market volatility have tightened financial conditions, Powell said, “we do not see these developments as weighing heavily on the outlook for economic activity, the labor market and inflation.” Rather, “the robust job market should continue to support growth in household incomes and consumer spending, solid economic growth among our trading partners should lead to further gains in U.S. exports, and upbeat business sentiment and strong sales growth will likely continue to boost business investment.” By the end of his Congressional appearance, 2-year yields had risen 5bp to 2.27% whilst the number of implied rate hikes this year had risen from 2.8 to 2.9. The USD index opens this morning in Europe around 90.00