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GBP versus USD, hardly a fair fight

Published: Tuesday 21 August 2018

  • ​​Trade wars serve up a surprise
  • 'Strong and steady' US Dollar
  • Time running out to avoid no-deal Brexit
It's hardly a fair fight. The strengthening US Dollar has been battering the weakened Pound in the last month, reducing the high of 1.320 in mid-July to around 1.287 at time of writing, up a little from the 1.267 low in mid-August. With trade wars and fresh backing from the White House strengthening the Dollar and continuing Brexit uncertainty preying on the Pound, it's a pattern that could be repeated in the short-term. 

Trade wars serve up a surprise

Last month, Halo Financial predicted that more US trade tariffs were on the way and we were right. But, first, there was a surprise!

President Trump unexpectedly announced in late August that he was working with Europe to try and eliminate trade tariffs. Mr Trump and European Commission President Jean-Claude Juncker agreed to halt tariffs during negotiations, although they were unsure where the talks might go.

President Trump says, "We agreed today, first of all, to work together toward zero tariffs, zero non-tariff barriers and zero subsidies on non-auto industrial goods."

Then came the escalation of US tariffs on Turkey. In fact, tariffs of 25% on steel imports and 10% on aluminium imports were introduced in March. But disagreements over defence policy and the impending trial of American pastor Andrew Brunson culminated in the doubling of the tariffs.

In a Tweet, President Trump said, “I have just authorized a doubling of Tariffs on Steel and Aluminum with respect to Turkey as their currency, the Turkish Lira, slides rapidly downward against our very strong Dollar! Aluminum will now be 20% and Steel 50%.”

As a result, the Turkish Lira plunged around 40% against the Dollar. In retaliation, Turkey imposed tariffs on a range of US products.

Meanwhile, China is sending a trade delegation to the United States to try and head off a threatened $200 billion in tariffs on top of the $50 billion worth of imported goods previously introduced.

In general, the uncertainty over global trade, along with rising interest rates, have seen the Dollar increase against major currencies.
‘Strong and steady’ U.S. Dollar

Donald Trump flip-flops over many things. Now, he has changed his mind about the strength of the US Dollar, it seems.

Mr Trump has previously talked down the advantage of a strong Dollar, but in mid-August, he praised the rising greenback. He tweeted, “Our Economy is doing better than ever. Money is pouring into our cherished DOLLAR like rarely before, companies’ earnings are higher than ever, inflation is low & business optimism is higher than it has ever been. For the first time in many decades, we are protecting our workers!”

Since the start of the year, the value of GBPUSD has dropped markedly, from 1.439 to around 1.27 in mid-August.

Looking at the past history of Mr Trump’s comments, he may well change his mind again at some point and try to talk down the Dollar, but, in the meantime, as Larry Kudlow, President Trump’s Chief Economic Advisor points out, the Dollar is “strong and steady”.
Close up of British Pound currency note against US Dollar
Time running out to avoid no-deal Brexit

Ratings agency, Fitch, has pointed it out recently; Latvia stated it too; and now Denmark has repeated it – time is running out for Britain to avoid a no-deal Brexit.

Danish foreign minister Kristian Jensen echoed a warning from Latvian counterpart Edgars Rinkēvičs that there is a 50-50 chance of Britain leaving the European Union at the end of March 2019 with no deal.

Ratings agency Fitch joined the clamour of concern that the UK may well end up with a chaotic no-deal Brexit.

The currency markets are also worrying about the uncertainty, which does not help Sterling against a strong US Dollar.

In a statement, Fitch, one of the ‘big three’ credit rating specialists, says a smooth transition is less likely. Fitch believes its “base case” – that the UK would leave the EU in March 2019 with a transition period until around December 2020 and a framework for a future Free-Trade Agreement – no longer ranks as significantly more likely than other possible outcomes.

“An intensification of political divisions within the UK and slow progress in negotiations with the EU means there is such a wide range of potential Brexit outcomes that no individual scenario has a high probability, Fitch Ratings says. We no longer believe it is appropriate to identify a specific base case. An acrimonious and disruptive "no deal" Brexit is a material and growing possibility.”

The time available to finalise a withdrawal agreement is getting shorter, while the UK and EU remain wide apart, it points out.

Even UK Foreign minister, Jeremy Hunt, has admitted the risk of a no deal Brexit is increasing. “Everyone needs to prepare for the possibility of a chaotic no-deal Brexit. I think the risk of a no Brexit deal has been increasing recently, but it’s not what anyone wants and I hope very much that we’ll find a way to avoid that.”

Scare stories abound of the effects of no-deal on the UK, from 12% being added to the typical weekly groceries bill and £1,000 a year being added to household bills overall; a scarcity of vital drugs and blood products to transport chaos, including planes being unable to fly.

Now, a new challenge is being mounted in London’s High Court by British Expats who say the recent ruling by the Electoral Commission of undeclared spending by the Vote Leave group means Brexit is invalid.

The judicial review against the UK Prime Minister, Theresa May, has been submitted by the UK in EU Challenge group, which represents Britons living in France, Italy and Spain.

The government resists the action, saying it is out of time and that a similar challenge has previously been dismissed.

The chaos and uncertainty of Brexit and the weakness in Sterling is in sharp contrast to the strength of the US Dollar. If the trend continues, the Pound may be in for even more of a bashing from the US Dollar.
Guidance for USD Buyers

Sterling-USD has been in a clear down trend since April, breaking key support levels on the way through with little support now until 1.25. Having broken out of the bottom of the down channel on 10th August, GBP hasn’t followed through, suggesting there is some indecisiveness amongst traders, and especially after the currency pair reached massively oversold territory on the relative strength indicators.

A rate rise and improvements in the UK economy announced in August still could not overshadow Brexit negotiations, which shows how strong the selling pressure really is. Target levels for buyers should be placed at 1.30, although it’s difficult to see that there will be any meaningful rallies until we get a breakthrough on Brexit. Protection should be taken either at the current level or below the recent low of 1.2650.
Guidance for USD Sellers

Short positions are at their highest levels since May 2017, so you side with most of the market participants, although, when something becomes overstretched and one sided, there lies the greatest risk of short covering rallies. So reducing your exposure at the current levels could be a prudent move, especially if GBPUSD does close back above 1.30.

However, as we draw closer to the deadline of Brexit with no agreement in place, Sterling is likely to suffer further losses to the downside.  So it's a realistic assumption to expect levels more in your favour over the next seven months. Look to target the recent low of 1.2650.

GBPUSD-ResearchReport Chart - August 2018
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