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Pound gains in aftermath of UK PM election; euro rebounds as well


  • Sterling wakes up as Truss’s plans could fuel inflation
  • Euro rebounds as well after hitting a two-decade low
  • RBA lifts rates by 50bps and hints neutrality
  • Asian shares cheer China’s pledge for more action

Pound outperforms after new UK Prime Minister elected

The US dollar took a break at some point yesterday, with the dollar index pulling back after hitting a new two-decade high of 110.23. The currency that benefited the most from the dollar’s breather was the British pound. Its traders entered long positions after the currency hit a new two-and-a-half year low of 1.1441 and added more in the aftermath of the announcement that Britain’s Foreign Secretary Liz Truss will be the country’s new prime minister.

The reaction at the time of the announcement was not huge, but the fact that in her victory speech she reiterated her plans to cut taxes and deal with energy bills, may have been a reason for celebration. From an economic standpoint, if indeed those measures come into effect, they are likely to add more fuel to inflation, and thereby add more pressure on the BoE to raise rates faster.

Expectations of faster hikes by the BoE may be positive for the pound in the short run, but a failure of the Bank to meet those expectations due to recession concerns could come as a disappointment and thereby result in another round of pound selling. After all, pound traders are likely more concerned about a recession, and a cautious approach by the BoE due to that, even with inflation potentially rising further above 10%, could intensify those fears.

Euro attracts flows ahead of ECB, RBA hints neutrality

The euro was also able to stand on its feet at some point yesterday, after hitting a two-decade low of 0.9877 due to Russia’s decision to stop pumping gas through Nord Stream indefinitely. European shares stayed under pressure throughout Monday's session on fears that the energy crisis could worsen, which suggests that the euro’s recovery may have been the result of covering short positions ahead of Thursday’s ECB gathering, as money markets are assigning a decent chance for a 75bps hike.

This week’s central bank chorus already started during the Asian session today, with the RBA pleasing most market participants and raising its cash rate by 50bps. That said, officials removed from their statement the reference to “normalization”, which may be a hint that the cash rate is now in neutral territory. Although they appeared willing to continue hiking, this may have added some credence to expectations that the RBA may not need to move that aggressively from today onwards. That’s maybe why the initial reaction was a weaker aussie. However, with no clear signals as to how policymakers are planning to move forward, the currency recovered the lost ground to hover near its pre-decision levels almost immediately, before coming under renewed selling interest later.

Asian shares gain on China’s promises

Despite European shares extending losses yesterday, the picture was different today in Asia, with China’s Shanghai Composite seeing decent gains after Chinese policymakers promised to make renewed efforts to revive the wounded economy.

However, considering that the world’s second largest economy is still bleeding due to a battered property sector and a resurgence of COVID, and also taking into account the aggressive mood of most major central banks in this tightening cycle, it seems unlikely that China’s measures will place a floor below global equities and other risk linked assets.

This is evident by the behavior of oil prices. The 'black gold' gained somewhat yesterday after the OPEC+ group decided to cut output by 100k barrels per day in October, but the fact that the gains were limited and short-lived, suggests that demand concerns remain elevated, and China’s risks are one of the main reasons why those concerns exist.

Gold traders also took advantage of the dollar’s break, pushing the precious metal higher overnight. However, with US yields resuming their recovery today – after yesterday’s holiday break – a reversal of the prevailing downtrend seems unlikely for now.

Source: https://www.xm.com/research/analysis/marketComment/xm/daily-market-comment-pound-gains-in-aftermath-of-uk-pm-election-euro-rebounds-as-well-166061
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