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May’s comments hamper sterling’s outlook.

By Hamish Muress

The highlight of the day yesterday (and possibly our year) was Theresa May dancing during her trade trip to South Africa. The Prime Minister is touring the continent in order to boost the UK’s post Brexit trade links however it wasn’t just May’s dance moves that caught the attention of the market as her refusal to rule out a ‘no deal’ Brexit outcome caused the pound to hit yearly lows against the Euro.

We have maintained over the last week that with no economic data to support the pound until September the risk to sterling comes from Brexit headlines and this now appears to be the case. It has been the belief of many investors that a no deal scenario would be incomprehensible and as such very unlikely however this constant rhetoric from May and in particular Liam Fox suggests that the risk is very present. On top of this as well, these Brexit risks are now beginning to hit the pound more notably against the Euro. With the fresh one year lows GBP/EUR has swung 5% over the last 12 months finally breaking 1.11, whilst in the same time frame GBP/USD has swung almost 11%.

The weakness that we have seen in the US dollar recently was demonstrated yesterday as it failed to make and hold any serious inroads into the pound (following May’s comments). The theme for the US dollar at the moment is that a number of the trade threats and global risks may have been overstated causing the US dollar to reverse a lot of its gains, it wasn’t long ago that EUR/USD was at 13 month lows remember.

With September just around the corner though(!) the US administration has long maintained that a 25% tariff could be placed on $200billion worth of Chinese exports to the US showing that the trade war risks are not over. Could the USD make a recovery next month?

The euro at the moment is stuck between strong fundamentals and Italian uncertainty. Whilst it has bounced back against the USD over the last few weeks due to USD weakness and a little support from German data there is a sense of déjà vu for the Eurozone with regards to the latest news of political risk. The Eurozone seems unable to escape these sort of events and once again the risk has come from Italy. Following on from the elections earlier in the year, which ironically passed by without a lot of reaction or concern from the market, the fresh Italian coalition is causing headaches for the market with the expectation that its first budget could blow through the EU’s rules limiting public deficits to 3% of GDP. So far the selloff has only been in Italian debt and not the euro itself with Italian 10 year yields hitting 4 year highs.

Having finally moved on from the epic leadership battle in Australia last week the market can dig its teeth into some weighty data in the form of capital expenditure. This will provide another update for the Aussie economy and could follow last week’s construction data by beating expectation boosting the Aussie.

Following on from comments from US Treasury Secretary Steven Mnuchin yesterday as well as the fact that Canadian Foreign Minister Chrystia Freeland is currently in Washington, the signals are that Canada is pitching to restart NAFTA negotiations. This hope and expectation has seen the Canadian dollar recover against its US counterpart, testing the 1.2900 level. Canadian GDP is also set to be released tomorrow meaning that the dollar will be in play for the rest of the week.

The Kiwi continues to take its cues from events across the globe and has been buoyed since the start of the week due to the news that the US and Mexico have reached an agreement on trade. This hope that Trump’s open arms could be extended to China is good news for the New Zealand economy (and Australia). The Kiwi has recovered nearly 1.4% against the USD since the back end of last week.