FX Update: Market reacts to Norges Bank and Bank of England
Head of FX Strategy, Saxo Bank Group
Summary: Currencies continue to find little inspiration from fundamentals and a strong correlation with the swings in risk sentiment, but a couple of central bank meetings today did see two of the G10 currencies swinging into gear, namely NOK and GBP over their respective central bank announcements, with both seeing a more positive tone than expected.
An FT article today (“The fall of currencies under the spell of stocks worries strategists”) opined on FX analysts’ discomfort and inability for FX to react much anymore to traditional fundamentals. I sympathize with the situation and have found this market a struggle as well, with everything seeming to line up these days in some degree of correlation- and beta to the swings in risk appetite, something I have noted for weeks in this space. Alas, today provided a bit of distraction with the market reacting to central bank decisions in Norway and Sweden today (SNB not to be forgotten as well – more in the G10 rundown there.)
Shortly put, Norges Bank signaled a more positive outlook than with its prior forecasts as it forecast a much smaller growth hit this year than previously (-3.5% vs. -5.2% with the prior forecast) and said that the 2021 rebound for the mainland would be on the order of +3.7%, so voila, back to index 100 by the end of next year for the economy – about as rosy as it gets. We all know that central bank forecasts are as bad as yours or mine, but this at least alleviates any sense that the Norges Bank will consider new measures, and really a bit surprising so see NOK jumping so aggressively stronger here, when paying for the fiscal stimulus for Norway is uniquely funded through their petroleum fund anyway – rather than through debt financing from the government.
The Bank of England was a bit more of a surprise for the market as there was considerable division on the size of the increase the BoE would announce for its asset purchase target, with many agreeing on a GBP 100 billion increase, but some forecasting double that amount. The Bank of England effectively skirts that problem by simply declaring that it is happy to alter policy as necessary from here while stating that the damage done in Q2 appears so far to be less bad than originally feared.
Sterling jolted stronger in kneejerk reaction, but I don’t see the guidance as any firm commitment to a policy path from here – the UK is just now poking its head out of the door after the extreme lockdown measures and the BoE likely feels a need to stay nimble and react to the uncertain path of the recovery from here – much as the Fed’s QE guidance retains maximum leeway by allowing it to taper or increase at will without tripping over previous guidance. The 100B increase buys 8-12 weeks of QE at or beyond the treasury’s issuance of Gilts (currently purchase are over 13 billion per week, beyond the issuance of a couple of billion lower, so could be slowed slightly and still be fully covering issuance) – plenty of time to either announce a tapering of purchases down the road if the recovery is going gangbusters and treasury needs are set to fall or to double or triple it and add, for example, corporate debt and more if markets are in a deepening funk and systemic risks to the financial system return.
GBPUSD explored the full extent of the downside range just ahead of the BoE meeting and then jolted higher in reaction to the 100 billion increase in the BoE’s asset purchase target. The lines in the sand are clear, and as we state above, the purchase target increase of “only” 100B could be expanded at will further out without, while negative interest rates are still a possible consideration further down the line if the UK economy remains in dire straits and, for example, the BoE wants to juice asset (especially real estate) markets to keep animal spirits high. For now, the quickly selling of sterling back down toward 1.2500 after the knee-jerk higher makes the pair look heavy, although to avoid the current limbo, we need a close today to new lows set up a bearish tactical outlook for a possible test of the 1.2355 Fib retracement area, the last major retracement ahead of the sub-1.2100 lows.
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