GBP Pressured, But Temporary

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Includes: FXB, FXE
by: D. H. Taylor

Summary

Long term, GBP will outperform EUR.

Bare it may actually push U.K. To higher output.

BoE likely to increase rates faster than ECB.

Over the past few days GBP has sold off versus USD and other currencies. I am one of a very few who are bullish on the pound sterling. The selling has been overdone and I am looking for a 1% move to the other side.

There is a lot of undo consternation over the Brexit planning that has been happening the past few months. I am not certain that the vote to leave the Union is necessarily terrible beyond belief. For now, U.K. manufacturing has been picking up. The Markit numbers have been firmer than the U.K.'s European counterparts. Simply, manufacturing prices are 20% off.

I got a few comments on some of optimism with regards to the 20% haircut the currency has taken. Someone mentioned that their home value would be considered 20% less valuable in relation to European homes. My only thinking with that is, only if you planned on selling your British home in exchange for a European home. Given that the vast majority of homes sold in Briton are by Britons and that they will likely buy another home in Briton, who cares if the currency revalued a home on a relative basis.

In fact, my point was still the same, GBP is lower today, but that this will turn. Briton especially if they go alone, will have a much better opportunity to expand their economy over Europe. And, not being part of the Union does not necessarily mean the country is in dire straits. Ever heard of Switzerland? The U.K. can easily compare themselves to the tiny mountain nation and push towards that type of economy and political landscape. Last I checked, the Bank of Switzerland were still trying their best to keep their currency from getting to expensive versus the EUR.

The EU was late to the party getting going with QE. They will be late leaving the party. I do not expect the Union to come out of the Great Recession firing on all cylinders. Just the opposite. While Germany and France are improving their economic outlook, the Union is still carrying the weight of Greece, Italy, Spain and a few former Eastern bloc countries. These outlying countries are what a hangover feels like. Each country's politics are so different from the next that a Union of any kind seems impossible. As it is turning out, that is the case. Germany can only push for countries to behave like they do for so long. I would not be surprised to see some other country eventually put a referendum on the ballot sooner than later. Plus, with Le Pen doing as well as she is, it just might be the French to pull the trigger next.

Everything in the world is relative. I am bullish on the United States economy. I am also bullish on the British economy. But, I think American growth rates are going to be firmer. I am not so bullish on the entire EU growth prospects; Britain will outperform the Union. Given that,

EURGBP is more likely to go down than up.

My thinking is that the GBPUSD is too low at 1.2200 . The USD has sold off since the Fed move from Wednesday, that is the upward move 2 big figures on the chart. I had been thinking that there would be a move higher. I did not see the Fed raising interest rates as the catalyst.

The differential between the U.S. 10-year and the U.K. 10-year has widened a bit over the past few weeks. This is where the downward pressure has come from. The Bank of England has moved to keep rates fixed for some time but slightly went hawkish in their stance.

Ultimately, I see the USD outperforming the rest of the world for some time based on interest rates moving higher, longer. The U.S. economy is expanding at a healthy rate comparatively. Money will be moving back to the United States chasing those rates. That will be an opportunity for America as that money will end up getting put to work.

However, it is that relative stance that I am taking with GBP versus its cross-channel neighbors. The EU is going to get outperformed in the long run.

I have been selling EURGBP on any 1% move higher. I usually look for a 1% move lower on that. The trade has been working well. Eventually, I expect the trade to work out very well, that there is a sustained move downward in the cross.

As you can see, the interest rate differential has been widening, favoring the United States.

Disclosure: I am/we are short EURGBP.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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