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Where does sterling’s slide end? - James Hickman, Caxton FX

Where does sterling’s slide end?

Having enjoyed a positive start to the year, the gaping holes in Britain’s economic recovery have once again been brought into focus. With the headlines so engrossed in Greece’s woeful fiscal situation, the UK currency enjoyed a positive run against the euro in January, which it held through most of February. However, more recently the EU has done a good job of stalling on the economic situation and stemming negative sentiment. Attention has now returned to the UK. Unfortunately the fiscal instability in Greece has merely served to highlight that the UK itself is in a non-too dissimilar situation. Only this week, disappointing trade balance figures provided yet further evidence that Britain is failing to rein in spending. This data came at the end of a whole raft of weak figures emerging from the UK and unsurprisingly the market reacted accordingly, with the pound tumbling across the board.

So what lies in store for sterling as we look ahead? It must appear quite remarkable that even as rumours of an IMF bailout for Greece abound, the pound is still able to fall over 4% in just two weeks. The problem continues to lie in the upcoming election. With Cameron seemingly eager to diminish his lead in the polls, the markets are growing ever more concerned about the possibility of a hung parliament. Just about every weekend now, a different tabloid publishes the latest public polls, which inevitably show a narrowing of the Conservative’s lead. Consequently jitters are sent through the market as they fear the UK deficit will remain unfinanced.

With all the bashing that the UK economy has taken, there are positives. In spite of recent figures, there can be little doubt that the weakness of the UK currency will be supportive for economic growth. If the Bank of England is to be believed, Britain will experience gradual economic growth this year, helped by a renewed competitiveness in the export market. We are anticipating that the UK will catch up, and actually outstrip the eurozone in terms of growth this year with the indebted peripheral nations weighing on recovery in the region.

There is always a danger in reading too much into short-term currency moves. Right now it is the pound that is taking the brunt whilst the likes of Greece and Portugal are outlining austerity measures. It would perhaps be naïve to think though that the whole story has been heard with regard to the eurozone. The fact the euro has struggled to make up any ground against the USD in lieu of so called “solutions” in Greece, is testament to the skepticism of the markets. As we watch the situation develop sentiment will shift and we expect to see the pound recovering above €1.15 over the medium term.

The situation in the US is quite different. While the UK and the eurozone battle it out for the somewhat unconvincing honor of having the weakest economic recovery, US signals are improving. Indeed the Fed has already made a decisive move away from the emergency policies needed during the recession following some particularly impress GDP figures. Encouraging US employment numbers are also adding to the optimism. With the forecasts for the first rate rise now being brought forward, there is a good chance that the dollar will hold this value even into the medium term. Even with a change of government it could be 2011 before we see $1.60 again.

James Hickman

James Hickman is Managing Director of Caxton FX, a currency exchange specialist based in London www.caxtonfx.com

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