On Wednesday it suddenly seemed
That Brexiteers might be redeemed
The EU’d just hinted
A deal could be printed
Like nothing initially dreamed
But subsequent comments made clear
No breakthrough was actually near
There’s still no solution
(Just feared retribution)
On solving the Irish frontier
Yesterday saw the British pound rocket around 10:00am when EU Brexit negotiator, Michel Barnier, hinted that there was a chance for a deal with the UK that was different than EU deals with its other near neighbors. The market heard this as the first real attempt at a compromise on the EU side, and so within minutes, the pound was 1.2% higher and back above 1.30 for the first time in almost a month. Certainly, if this is true, it marks a serious breakthrough in the talks and is quite positive. Everything we have heard from the UK so far is that they are willing to adhere to EU rules regarding the trade in goods, but are looking for a different deal in services. Prior to the Barnier comments, the EU had been firm in their stance that it was an all or none decision. Suddenly, it seemed like a deal could occur. On that basis, the pound’s rally certainly makes sense, as the prospects for a no-deal Brexit had lately been clearly weighing on the pound. Alas, subsequent comments by the EU have poured cold water on this thought process as Barnier has reiterated there is no ability to cherry-pick the preferred parts of EU policy. Interestingly, the pound has barely given back any of the gains it managed in the wake of the first statement, as it is actually down less than 0.1% as I type.
Given the data released earlier this morning, which was not all that positive (Consumer Credit declined more than expected, Mortgage Lending declined much more than expected and Mortgage Approvals fell more than expected) it seems hard to justify the ongoing strength of the pound. Two possible explanations are 1) the market had built up significant short positions in the pound and while yesterday’s sharp rally forced covering, nobody has looked to reinstate them yet, or 2) investors and traders continue to believe that the UK will get a special deal and so further weakness in the pound is not warranted. Occam’s Razor would suggest that the first explanation is the correct one, as the second one would seem to require magical thinking. And while there is plenty of magical thinking going around, financial markets are one place where it is difficult to retain those thoughts and survive. My gut tells me that once the Labor Day holiday has passed, we will see the pound start to sell off once again.
The other noteworthy story this morning is that there is even more stress in those emerging market currencies that have been feeling stressed during the past month. Today it is Argentina’s turn to lead the way lower, with the peso falling an impressive 7.5% after President Macri announced that he had asked the IMF to speed up disbursements of the $50 billion credit line. The market saw that as desperation, which is probably correct despite strenuous denials by the Argentine government. Meanwhile, the Turkish lira is down by 3.5% because…well just because. After all, nothing has changed there and until the central bank starts to focus monetary policy on solving the nation’s problems, TRY will continue to fall. Overnight we saw INR fall to a new historic low, down 0.4% and now pushing to 71.00, albeit not quite there yet. ZAR is under pressure this morning, down nearly 2% as its current account deficit situation is seen as a significant weight. And despite the positive of completing NAFTA negotiations with the US, MXN has fallen 0.5%. So while the dollar is generally little changed vs. its G10 counterparts, the stress in the EMG bloc remains palpable. Ultimately, I expect the dollar to resume its uptrend, but not until next week, after the holiday.
As to this morning’s data, after yesterday’s upward revision of Q2 GDP, all eyes are on the PCE data this morning. Expectations run as follows: Initial Claims (214K); Personal Income (0.3%); Personal Spending (0.4%); PCE (0.1%, 2.2% Y/Y); and Core PCE (0.2%, 2.0% Y/Y). Again, the biggest market reaction is likely to be caused by an unexpected outturn in Core PCE, which is the number most Fed members seem to regard as the key. A high print should support the dollar, as the implication will be the Fed may be forced to tighten more aggressively, while a low print should undermine the buck as traders back off on their estimates of how quickly the Fed acts. Remember, many traders and investors took Powell’s Jackson Hole speech as dovish, although I’m not so sure that is an accurate take.
At any rate, that pretty much sums up the day. I will be on vacation starting tomorrow and thus there will be no poetry until September 5th.
Thanks and have a good holiday weekend