CAPITALDIGEST MARKET REVIEW, 11/4/2023

POUND HITS HIGHEST SINCE JUNE, EURO UP AS DOLLAR UNDER PRESSURE The pound rose to a new 10-month high against the dollar on Tuesday, and the euro reached its highest in two months, as the greenback continued to be hurt by market bets that the end of the U.S. rate-hiking cycle is near. Sterling GBP=D3 reached $1.2475, its highest since June 2022, and was last just below that level, up 0.4%. The euro EUR=EBS reached $1.0938, its most since early February, and was last up 0.17% at $1.0921. “We’ve been saying that FX hasn’t really captured what’s been happening in rates, and there is scope still for the dollar to weaken a bit further,” said Derek Halfpenny head of research for global markets at MUFG. “Short term spreads between core Europe and the U.S. are more consistent with euro-dollar trading near $1.10 to $1.15.” U.S. and European government bond yields fell dramatically last month as investors rushed to buy safe haven assets due to fears about the banking sector, and while they have rebounded a little they remain well below recent highs. The German two-year yield has dropped 70 basis points since its March highs and was last at 2.687%, DE2YT=RR but U.S. moves have been even more dramatic. The U.S. two-year yield was last at 3.9978%, down a full percentage point from its early March highs, after the banking turmoil caused traders to reassess expectations that there were still several Federal Reserve rate hikes ahead. US2YT=RR The latest data to support that was from a Monday survey by the Institute for Supply Management (ISM) that showed that manufacturing activity fell to the lowest in nearly three years in March as new orders continued to contract, with all sub-components of its manufacturing PMI below the 50 threshold for the first time since 2009. Traders still think the European Central Bank has more rate hikes to come. STERLING BREAKS ABOVE $1.25 FOR FIRST TIME SINCE JUNE 2022 Sterling surged on Tuesday, breaking above $1.25 for the first time since June 2022, as traders turned bullish on a currency trading well below 2016 levels and the central bank’s chief economist left the door open to more interest rate hikes. The pound surged 0.9% to $1.2525, its highest level in ten months against a weakening U.S. dollar. Supporting sterling, Bank of England (BoE) Chief Economist Huw Pill said Britain’s central bank still cannot be sure that it has raised interest rates enough to tame inflation. Pill voted with the majority on the BoE’s Monetary Policy Committee last month to raise the bank’s main interest rate to 4.25% from 4%, its 11th increase since it began increasing rates in December 2021. Early in the day, BoE monetary policymaker Silvana Tenreyro said the central bank would probably need to start cutting interest rates sooner than previously thought, but that didn’t stop the sterling rally. After falling 10.6% in 2022, sterling is the best performing G10 currency this year, up 3.4%, despite a bleak economic outlook for Britain. But it is still 15.5% below its 2016 levels, before Britain voted to leave the European Union. “A major bull move in the pound is developing here,” said Shaun Osborne, chief currency strategist at Scotiabank. US DOLLAR RISES AFTER DAYS OF LOSSES, BUT WEAK OUTLOOK INTACT The dollar advanced on Wednesday, recovering from two-month lows hit the previous session, as investors lightened their short positions to book profits ahead of the all-important U.S. non-farm payrolls report on Friday. The underlying trend though for the dollar remained tilted to the downside and Wednesday’s U.S. private sector jobs numbers affirmed that. The jobs data supported the view that the Federal Reserve may not need to raise rates much further. Investors are looking to Friday’s non-farm payrolls report for March, with economists polled by Reuters expecting new jobs of about 240,000. In afternoon trading, the dollar index rose 0.4% to 101.87 , led by gains against the euro, which fell 0.5% to $1.0906 . Erik F. Nelson, macro strategist at Wells Fargo in London, said for now, “the bar for the dollar to keep falling is high,” noting that the greenback tracks U.S. Treasury yields, which have seen extreme moves in recent weeks.In March, U.S. two-year yields, which reflect interest rate expectations, sank nearly 74 basis points (bps), the worst monthly fall since January 2008, which was in the thick of the global financial crisis. “We need to see continued weakness in the data because part of the dollar weakness we’re seeing is coming from falling U.S. rates and cuts being priced from the Fed. And if the U.S. data is not going to affirm that, then the dollar could be more resilient than expected,” Nelson said. He clarified though that he remains dollar-bearish, but noted that moves in the currency will be more of a “grind lower,” instead of a straight downtrend that reflect months and months of persistent selling. STERLING EASES, BUT REMAINS NEAR TO 10-MONTH PEAK The pound dipped on Wednesday, but remained close to its 10-month high against the dollar hit the day before, as improving economic circumstances have helped sterling to be one of the biggest beneficiaries of the softening U.S. currency. The pound was last down 0.27% against a broadly rebounding dollar at $1.2466 , having hit $1.2525 a day earlier, its highest since June 2022. The pound rallied roughly 2% against the dollar in the first quarter of the year, the most in the G10 and outpacing gains by other major European currencies. article-prompt-devices British economic data has largely come in slightly better than feared, the latest example being strong service sector activity data, released Wednesday. That in turn has driven market expectations of more interest rate hikes from the Bank of England (BOE) as it seeks to rein in inflation, underscored by remarks from policy makers. The BOE still cannot be sure that it has raised interest rates enough to tame inflation, Huw Pill, the central bank’s chief economist said on Tuesday. Markets are currently pricing in another 40 basis points in rate hikes this cycle. “UK rate expectations have repriced in recent weeks on the back of perceived renewed hawkishness among BoE officials,” said analysts at Manulife, setting out their expectations for markets in the second quarter. “The BoE’s dynamic stance is offering support to the currency as policymakers adjust to domestic data as well as developments in the outlook for global rate expectations.” STERLING HOVERS JUST BELOW 10-MONTH HIGH, WITH FOCUS ON U.S. JOB NUMBERS The pound hovered just below its highest level in 10 months on Thursday as investor focus turned to Friday’s U.S. jobs numbers. Sterling was last flat at $1.246, having touched its highest level since June – $1.253 – on Tuesday. Markets were subdued across the board on Thursday ahead of the release of the U.S. non-farm payrolls employment data on Friday. It will be a key factor in the Federal Reserve’s next interest rate decision and could cause volatility in markets. “There is a semblance of calm about today’s trading session in the absence of any major data,” said Simon Harvey, head of FX analysis at Monex Europe. “Price action instead is likely to be determined by expectations for tomorrow’s payrolls print.” The U.S. jobs market has remained resolutely strong, keeping the pressure on the Fed to raise interest rates to tackle inflation. Yet analysts expect the U.S. to have added 239,000 jobs in March, a slowdown from February’s 311,00 figure. The pound was also little changed against the euro , with a euro changing hands for 87.51 pence. Sterling has risen dramatically after plunging to a record low of $1.033 in September in the wake of then-Prime Minister Liz Truss’s disastrous budget. A stronger-than-expected economy, aided by falling energy prices, has helped the pound. As has a recent drop in the dollar as investors worry about the collapse of Silicon Valley Bank and Signature Bank and the implications for the U.S. economy. With British inflation unexpectedly jumping to 10.4% in February, investors broadly think the Bank of England will raise interest rates further.