A Brexit would bring even tougher negotiations with EU

If the UK leaves the EU, it would lead to some tough decisions and negotiations on trade, says Stephen Lewis of ADM Investor Services.

British Prime Minister David Cameron is locked in tough negotiations about changing some of the terms of the UK membership with the EU, but a so-called Brexit would kick off a whole new round of potentially more difficult talks with bloc.

The key economic decisions to be taken if the UK electorate does vote to leave the EU in a referendum centre around trade, although there is much more at stake than just this issue, writes Stephen Lewis, chief economist at ADM Investor Services.

If Britain decides to leave the EU, it then has to decide whether or not to stay in the European Economic Area or leave that as well. “This is not a question that will be presented to voters in the referendum but it might very well be crucial to how Brexit would work out in practice,” writes Lewis.

READ: Major bank warns of serious impact in UK votes for Brexit

If the UK stays in the EEA with non-EU members Norway, Iceland and Liechtenstein, it would still have access to the EU’s internal market, but wouldn’t be able to vote on internal market rules. Under the EEA agreement, the EU would still have to negotiate with the non-EU members if it wanted to change those rules, according to Lewis.

“A government that expected usually to be in a small minority in EU decision-making, under the ‘qualified majority voting’ regime, might see no practical difference, as far as trading relations with the EU were concerned, between participating in the EU and shifting to EEA status,” he writes.

The advantage of staying in the EEA would be taking control of its own policies on a huge range of thinks, including agriculture, fisheries, international trade, foreign relations, security, police and judicial matters. However, there are drawbacks, including having to make substantial payments to help reduce social and economic disparities within Europe.

Leaving both the EU and EEA would throw up more fundamental problems for UK negotiators, according to Lewis, as it would void trade agreements with other countries. This could be solved by negotiating an inter-governmental deal with the EU that allows existing EU trade treaties with other countries to apply to the UK too. But this would depend on the goodwill of the EU.

The UK might need to negotiate a new set of treaties with the EU itself, although it could continue current arrangements within a new treaty, the economist writes. It would be protected from any discrimination by World Trade Organisation rules that prevent trade restrictions.

The key sector for the UK is its dominant services sector, and it is going to have to work hard to secure its interests from outside the EU, negotiating when new proposals emerge in Brussels or in Germany.

Lewis’ analysis of the trade implications of a Brexit come as government ministers stepped up their own rhetoric surrounding the debate.

READ: UK Brexit uncertainty will sink the pound

Chancellor of the Exchequer George Osborne predicted that the EU referendum would end the UK debate about its relationship with the EU for “at least a generation”.

Meanwhile, Commons Leader and Conservative euro skeptic Chris Grayling described the EU as “disastrous” for Britain.

“The crisis in the eurozone and the migration challenge have led to calls for still more integration and a move towards much greater political union. It is a path that the UK will not and should not follow,” Grayling wrote in an article for The Daily Telegraph.

This post was originally published here: https://news.markets/forex/a-brexit-would-mean-even-tougher-negotiations-with-the-eu-8692/

Analysts see no reason to panic about emerging markets

Emerging market (EM) stocks have fallen by almost a quarter over the past year amidst the general malaise prompted by China’s problems, which have reduced demand for their goods, and the slump in the prices of the commodities many of them produce. Emerging market currencies have weakened too.

However, analysts see no reason to panic.

“EM credit growth remains weak by its usual standards but there is no evidence (yet) of a widespread ‘credit crunch’ that could be the precursor to a more serious downturn in economic activity,” writes Neil Shearing, chief emerging markets economist at Capital Economics.

“Of the many reasons that have been cited over the past few weeks to be bearish on EMs, the one that we have most sympathy with is the notion that the rapid build-up of private-sector debt over the past decade could create financial-sector vulnerabilities that in turn could spur problems in the real economy,” he adds.

“Yet while we are concerned about the risks posed by a rapid build-up of debt in a handful of emerging markets, there is nothing in the latest data to support claims we’ve seen in recent days that EMs are already in the midst of a credit crunch that will prove the precursor to sharp falls in economic activity,” Shearing continues.

Emerging market stocks have fallen sharply in recent months

Source: Investing.com

Alberto Aides, an economist at Bank of America Merrill Lynch, is even mildly optimistic – albeit with many caveats. “We expect EM to recover modestly in 2016 if US and Chinese growth hold up, and commodity prices recover,” he writes.

There are two big “ifs” in that sentence, as Aides acknowledges. “The recent increase in financial volatility, mainly due to China growth concerns, lower oil prices and uncertainty about US growth, adds risks to our call. Greater financial globalisation, and a weaker fiscal stance and balance sheet limit the room for countercyclical monetary and fiscal policy in EM,” he writes.

Still, he reckons the Mexican peso is undervalued, noting that it is less exposed to commodities than other Latin American currencies. And with a more short-term focus, he notes that a BAML forecasting model is signalling long positions in the Chinese, Indian, South Korean, Philippine and Peruvian currencies.

Elsewhere, Shearing notes that credit continues to contract in a handful of EMs in Europe, including Hungary, Bulgaria and Croatia.

“However, as things stand, these EMs are the exception rather than the rule,” he writes. “This doesn’t mean that emerging markets won’t experience a credit crunch in the future – and we will continue to monitor those we have previously identified as ‘at risk’ carefully over the coming months. But the most recent data seem to point to a soft landing for credit growth in the emerging world, not an abrupt crunch,” he writes.

This post was taken from news.markets: https://news.markets/shares/analysts-see-no-reason-to-panic-about-emerging-markets-8593/

UPDATE: RBS advises clients to ‘sell everything’ except haven debt

The Royal Bank of Scotland’s credit team has advised clients to brace for a “cataclysmic year” and a deflationary crisis, warning that major stock markets could fall by a fifth and that the crude oil price may nearly halve, again, to $16 per barrel.

The bank’s credit team said markets are flashing stress alerts akin to the turbulent months before the Lehman Brothers crisis in 2008.

“Sell everything except high quality bonds. This is about return of capital, not return on capital. In a crowded hall, exit doors are small,” it says in a client note.

Andrew Roberts, the bank’s credit chief, expects Wall Street and European stocks to fall by 10%-20%, with an even deeper slide for the FTSE 100 given its high weighting of energy and commodities companies.

RBS forecast that yields on 10-year German Bunds, or government bonds, would fall to an all-time low of 0.16% in a flight to safety, and may break zero as deflationary forces tighten their grip. The European Central Bank’s policy rate will fall to minus 0.7%.

Indeed such bonds, and a few of their developed-market counterparts are about the only things RBS would be long of. It says be long “10-year gilts, USTs, Bunds and BTPs [Italian government bonds]”.

READ: Time to buy baked beans and a shotgun? 

It also recommended being long of shorter paper “as deposit rate cuts remain on the table,” especially in the eurozone, but also perhaps in the UK , which looks cheap as the few remaining Bank of England hawks (ie those who want to see higher rates) “get bounced from the table”.

“And mostly, beware of the risk-on optimists,” the bank goes on.

“One lesson from 2Q 2015 and the Bund sell-off we got caught in, is that we need to always ask ourselves what the exit door is with any trade – as we said into the credit crunch in 2008, this will be as much about limiting losses as making gains.”

This post first appeared here: https://news.markets/bonds/rbs-client-note-makes-waves-sell-everything-advice-8243/

Don’t panic, Chinese inflation is in a good place -Capital

China’s economy is beset with problems but inflation isn’t one of them, despite persistent factory-gate price weakness, according to Capital Economics.

Consumer price inflation rose to 1.6% in December, the latest official data show, up from 1.5% in November but a whisker below market consensus.

For Capital’s chief China economist, Mark Williams, this leaves it in something of a sweet spot, with pricing power “high enough to keep concerns about deflation at bay” but low enough to give policymakers “plenty of room” to loosen further. He is more sanguine than most about weakness in producer prices, which have now posted a 46th successive month of declines, with a 5.9% year-on-year fall registered in December.

“The rate at which producer prices are declining (5.9% y/y again in December) can be almost entirely explained by falls in global commodity prices,” Williams writes.

“Weakness of Chinese demand relative to global supply has been a big factor in the slide in commodity prices, but this price shift nonetheless leaves the Chinese economy better off,” he continues.

“In any case, a year after the steepest commodity price declines, producer price inflation should be on the cusp of a rebound.”

However, if the latest inflation numbers are indeed good news, Chinese markets aren’t feeling it so far. Indices there are still feeling the fallout from last week’s twin market shutdowns and are all off by more than 1%.

This post originally appeared here: https://news.markets/bonds/dont-panic-chinese-inflation-is-in-a-good-place-capital-8141/

Rand weakness ‘inevitable’, says Commerzbank economist

The commodity price slump is hitting the South African rand more than most currencies

South Africa’s rand, or ZAR, is certain to fall according to Peter Kinsella, head of research on emerging market economies and currencies at Commerzbank.

“The combination of commodity price declines, a widening current account deficit and higher expected inflation implies that further ZAR weakness is inevitable,” he writes.

Kinsella argues that the ongoing commodity price slump affects the rand more than most currencies. “As a commodity exporter with strong links to the Chinese economy, ZAR depreciated by nearly 20% against the EUR over the last 12 months. With no end in sight for the commodity slump, this implies that ZAR will continue to lose ground in the short term,” he writes.

Moreover, South Africa persistently runs a sizeable current account deficit, which is expected to widen towards 4.5% of GDP over the coming quarters. “This makes South Africa and ZAR vulnerable to an increase in external financing costs, which is exactly what manifests at present with higher US interest rates,” he writes.

“In the event of materially higher US interest rates, this poses a key risk for ZAR. In addition to this, South African inflation is expected to increase markedly over the coming months as the inflationary pass through from the weakening exchange rate manifests,” he adds.

As for the country’s central bank, the South African Reserve Bank, it surprised the market with interest rate hikes, but the inflation trajectory implies that real interest rates will be barely positive, writes Kinsella.

South African real interest rates will remain among the lowest in all of the emerging markets. This will burden ZAR over the coming months. The only risk to the above scenario is if the Fed takes note of the current emerging market jitters and refrains from hiking rates over the coming months. This could lead to some brief respite for ZAR. We illustrate a strategy which will protect investors’ interests in both cases.”

Kinsella’s recommendation is a “forward plus” in the euro/rand currency cross. “ZAR buyers are hedged at current spot prices and benefit if EUR/ZAR appreciates towards 19.00,” he writes.

The cross rate was trading at 17.3890 at midday on Friday.

This post previously appeared on news.markets: https://news.markets/forex/rand-weakness-inevitable-says-commerzbank-economist-8092/

 

Bank of America names its top emerging picks for 2016

The year 2016 isn’t very old but it already looks as though prediction is a game for the very brave. Chinese shares have already chalked up two days of plunge and shutdown; there’s new froideur between Saudi Arabia and Iran; and it seems very possible that North Korea has a thermonuclear weapon we didn’t know about.

Still, the foretelling goes on, with Bank of America Merrill Lynch latest into the fray with its top emerging market calls for this year.

“Our top trades for 2016 look to take advantage of monetary policy divergence within developed markets, between DM and EM, and within EM,” the bank’s analysts write.

“We are cautious on the return outlook given risks of a faster Federal Reserve (monetary) tightening, a sharper Chinese slowdown, volatile oil prices and US high-yield unraveling,” they go on.

Its not likely to be a blockbuster year though, with forecast returns of 1% for local EM debt, -0.4% for over all EM foreign exchange and 2.7% for EM’s external sovereign debt.

So, here’s the list:

BoAML’s top foreign exchange pick is to be long both Mexico’s peso and Poland’s zloty against the euro, while being short a basket of Korean won, Malaysian ringgit against the dollar, and South Africa’s rand against the rouble – all on the basis of monetary policy divergence.

The bank’s favourite local-debt long positions are in Russia, India and Brazil.

It prefers Russian paper to Turkish, fretting that, “the latest news on macro policy and constitutional changes” raises the risk that Turkey will be stripped of its investment-grade credit ratings.

Those who like Argentina’s chances under its new, more conciliatory and market-friendly administration might like to consider its EUR GDP warrants, perhaps hedged in currency terms in order to minimise exposure policy transition there. BoAML has raised Argentina to overweight thanks to the change in government.

However, events in China are clouding the outlook. Its the largest EM, after all, and its start to the year has been an epic, just not one that’s been fun to watch.

“We remain cautious amid renewed Chinese slowdown concerns and the global equity market rout,” the bank’s analysts conclude.

This article first appeared here: https://news.markets/bonds/bank-america-names-top-emerging-picks-2016-7901/

We’ve just seen the weakest year for inflation since the euro’s birth

Now that all the eurozone inflation numbers are in for 2015 we can see that it’s been a truly extraordinary year.

The eurozone’s December’s consumer price index rise of 0.2% left the average rate for the year as a whole at zero – the weakest year since the single currency’s birth in 1999. The past year’s figures take annual inflation below even the nadir of the financial crisis and, as the chart below shows, efforts to stimulate prices in the wake of that debacle petered out quickly. This is the sort of stubborn low inflation which is sure to invite uncomfortable comparisons with Japan’s long fight to bring some pricing power back to its economy.

Indeed, the forecaster Capital Economics finds it hard to see at this point where a sustained increase in inflation is going to come from. Its analysts concede that the headline rate is likely to rise, especially if oil prices recover. However, core inflation is set to remain subdued by any measure given weak cost pressures, little sign of wage inflation and “plentiful spare capacity in the economy,” they write.

And some base effects from weak oil are hardly the stuff of durable recovery.

Headline inflation has now been below 1% since October 2013 and, despite continued signs of recovery in the eurozone, domestically generated inflation is also proving sluggish. December services inflation was 1.1%, whereas in the pre-crisis days a print below 2% was unusual.

Market-based measures of medium-term inflation expectations remain adrift: a swap contract that estimates five-year inflation in five years’ time stands at 1.67%. Such measures are heavily influenced by moves in inflation now, which could be read as a lack of faith among investors in the European Central Bank’s ability to achieve its aim, which is supposedly inflation of near but not over 2%.

The ECB failed to match the markets’ exaggerated hopes of policy easing in December, but a few more months of inflation this docile are sure to see investors begging for more. Thursday’s account of that famously underwhelming policy meeting is going to be hotly awaited to see how close the ECB might have come to action back then.

Source: Capital Economics

This post is republished from news.markets: http://news.markets/bonds/weve-just-seen-weakest-year-inflation-since-euros-birth-7762/

No early Christmas gift for George Osborne; UK borrowing soars

The UK borrowed far more than expected in November, according to official figures.

Public sector net borrowing totalled £14.2 billion, up from £7.4 billion in October and way ahead of market expectations, which had been for a turnout of £11.8 billion in what’s often a weak month for government receipts.

Economists have long been worried that the UK will miss its borrowing targets, but in his Autumn Statement Chancellor of the Exchequer George Osborne insisted that he was on track to move the country into a primary budget surplus by 2019/20.

However, while this month’s data look bad for Number Eleven Downing Street, the National Statistics office itself suggests looking at the cumulative year-to-date figures instead, emphasising the volatility of the monthly series.

Here the news is slightly better, with the central government’s cash requirement down £8.2 billion from January to November 2014, at £49.4 billion.

Still, the pound is likely to face headwinds as the New Year gets under way. Borrowing remains high and the Bank of England appears in no hurry to follow the Federal Reserve in raising interest rates. Moreover, the battle lines are now being drawn over the UK’s place or lack of one in the EU, which will keep the ‘Brexit’ issue smouldering ahead of a referendum on the issue, which must come relatively soon.

Sterling is the other currency “I remain wary of”, writes Kit Juckes, Societe Generale’s long-serving macro strategist, who worries too about the Australian and New Zealand dollars.

“We’ll have to live with a weaker pound in 2016,” he adds.

This post first appeared on news.markets: http://news.markets/bonds/no-early-christmas-gift-george-osborne-uk-borrowing-soars-7235/

ECB will keep policy easy for as long as it takes -Praet

The European Central Bank will keep monetary policy easy for as long as necessary, its chief economist says in an interview with a Belgian newspaper.

The ECB cut its deposit rate earlier this month and extended its asset-purchase programme in a bid to bring inflation in the eurozone, currently just above zero, back to its target of almost 2%.
The ECB “will pursue an accommodative monetary policy for as long as is necessary. Without giving a date, this timescale is fairly long,” Peter Praet, who is also a member of the Bank’s executive board, told La Libre Belgique.

“Additional risks have arisen from the slowdown in the emerging countries, risks that are pretty significant for the euro area. There are also downward pressures on prices in the manufacturing sector as a result of surplus output and the very high unemployment level,” he says.

He added, however, that the ECB cannot act on its own and governments also need to do their part, implying that at present they are not doing so.

“People expect too much from the ECB, if other actors rein in their efforts whenever we take action,” Praet said. “We are seeing less of an effort on the public finance side.”

First published here: http://news.markets/bonds/ecb-will-keep-policy-easy-long-takes-praet-7165/

Putin puts on a brave face, but the tumbling ruble tells Russia’s real story

Russian President Vladimir Putin held forth with customary brio at his meet-the-press session on Thursday. This, now annual, event allows him to answer questions of the “Mr. President, exactly why are you so wonderful?” sort from adoring local journalists.

However, not even Putin’s presentation skills can paper over the cracks in Russia’s economy, which are growing alarmingly.

The country was never going to do well in the face of a commodity price rout, and sure enough the ruble has been the worst-performing emerging market currency over the past month, falling 6% against the dollar. Indeed, it is now hovering around record lows, with the greenback getting you RUB71.018.

This is hardly surprising given the ruble’s link to global oil prices, well illustrated by the chart below.

Source: Capital Economics

And things don’t look that much better for the Russian currency or the economy underlying it in the New Year.

“Looking ahead, the combination of persistent capital outflows, a fragile economic recovery and political concerns, mean that the ruble is likely to remain under pressure,” writes Capital Economics’ Liza Ermolenko in a note on Friday.

What makes matters worse for Russia is that oil prices are falling at a time when Europe is also using a lot less of Russia’s natural gas thanks to a relatively mild winter and easy access to a cheaper energy alternative in oil.

Russian consumers are also taking a hit, with both wages and retail sales collapsing. For all Putin’s showmanship, it seems very unlikely that Russia or its currency are going to loom large in the analysts’ New Year recommendations.

Originally published here: http://news.markets/commodities/putin-puts-brave-face-tumbling-ruble-tells-russias-real-story-7056/

Fed rate hike boosts stocks, bonds and the dollar; hits commodities

European financial markets’ reaction to Wednesday’s widely forecast US interest rate increase suggests that, far from clarifying the outlook for 2016, the Federal Reserve has raised more questions than it has answered.

The decision by the US central bank to raise rates by a quarter of a percentage point was widely seen as a ‘dovish hike’, implying that any further rate increases will be modest and spread over time. That has lifted stock markets around the world, with European bourses following their counterparts in the US and Asia higher.

By 1130 GMT, London’s benchmark FTSE 100 was up 1.4%, Frankfurt’s DAX up 3.3% and Paris’s CAC 40 up 2.6% following gains on Wall Street and through Asia.

Similarly, in the European government bond markets, 10-year yields were lower all round on the prospect of further rate rises arriving only slowly. Money that was parked in cash ahead of the Fed’s decision may also have been put back to work in bonds as well as shares.

“The decision to raise rates for the first time following almost a decade of crises and unconventional policy measures is being welcomed as much for its end to uncertainty as its vote of confidence in US economic recovery,” writes Mike van Dulken, head of research at Accendo Markets.

However, the dollar – far from weakening as it does usually when bond yields decline – was actually stronger all round; gaining against all the other major currencies such as the euro, the yen, sterling, the Swiss franc and the Australian and New Zealand dollars.

That may have been a simple response to higher US rates and relief that the Fed’s decision is now out of the way, or it may have been because the Fed still sees rates rising more quickly than the markets are pricing in.

“The hike, usually bad news for stocks and good news for the currency, saw both rally as relief that the central bank hadn’t disappointed was clear to see,” writes James Hughes, chief market analyst at GKFX.

The rise in the dollar may explain a strongly adverse reaction in commodities, which are largely priced in dollars and therefore tend to fall in price when the greenback advances. Brent crude oil recovered earlier losses but Comex gold was down 0.9% and the overall Bloomberg commodities index was 0.4% weaker.

“In the wake of the FOMC decision, base and precious metals along with oil prices are all trading lower,” writes Brenda Kelly, head analyst at London Capital Group, referring to the rate-setting Federal Open Market Committee.

She adds that Goldman Sachs’ call that iron ore will likely remain below $40 over the next three years is also weighing on sentiment.

This article originally appeared here: http://news.markets/bonds/fed-rate-hike-boosts-6994/

Fund managers predict three or more US rate hikes in next 12 months

More than half the global investors polled by Bank of America Merrill Lynch in its latest Fund Manager Survey expect the Federal Reserve to raise US interest rates three times or more in the coming 12 months.

In total, 58% told the bank’s researchers in December that was what they expected, while 53% described “long US dollar” as the most crowded trade in the markets, up from 32% last month.

“The strong dollar view is writ large across all asset, regional and sector allocations. It will take a very dovish Fed and weak US earnings to reverse the strong dollar view in 2016,” writes Michael Hartnett, chief investment strategist at BofA Merrill Lynch Global Research.

Ahead of Wednesday’s decision by the rate-setting Federal Open Market Committee, which is expected to raise the Federal funds rate for the first time in almost a decade by a quarter of a percentage point, investors are defensively positioned even though the Fed is also expected to accompany the increase with generally dovish comments.

Editor’s blog: How to trade this week’s US rate rise

Risk taking fell, reports BAML, and cash holdings rose to 5.2% of portfolios from 4.9% in November.

Elsewhere, a net 43% of regional fund managers said they expect China’s economy to weaken in 2016, up from a net 4% last month, and the weighted average economic growth projections for China in 2018 fell to 5.5% from November’s 5.9%.

A net 29% of asset allocators were underweight commodities, up from a net 23% in November, and while investors increased their underweight positions in US equities, Europe and Japan were the most favoured regions for overweight positions in 2016.

Investors also emphasised a focus on quality, with a net 65% saying that high-quality earnings stocks will outperform low-quality earnings stocks next year.

“European equities remain in favor despite disappointment over the ECB decision,” writes James Barty, head of European equity strategy at BAML. On December 3, the European Central Bank dashed many investors’ hopes with a less aggressive than expected package of measure to boost the eurozone economy.

Republished from news.markets: http://news.markets/bonds/fund-managers-predict-three-us-rate-hikes-next-12-months-6822/

Major bank warns of ‘very serious’ impact if UK votes to ‘Brexit’

 

The UK’s economic growth will be hurt if the country votes to exit the EU in a referendum, and growth could even suffer in the run up to a vote, Bank of America Merrill Lynch is warning.

As the bank notes, British Prime Minister David Cameron’s attempts to negotiate changes to the UK’s relationship with the EU aren’t going smoothly. Efforts to negotiate a deal to make migrants wait for four years before they’re eligible for in-work benefits such as tax credits are being met with fierce resistance. Compromise is in the offing.

That could make it much tougher for the stay-in campaign ahead of an in-out referendum on the UK’s EU membership that’s scheduled to run before the end of 2017, but which could come as early as 2016.

There’s obviously a long way to go before the referendum, but the polls have recently been narrowing. There are a large number of ‘don’t knows’ at the moment, but the split between those who want to leave and those who want to stay at this stage is very close. A lot depends on how Cameron’s re-negotiations go, with the polls indicating many more in favour of staying if there are “major changes” to the UK’s relationship with the EU.

Major changes include greater UK control over immigration and borders, with welfare benefit restrictions coming a close second.

That’s making the City nervous.

“Uncertainty about the referendum outcome could hurt UK growth next year even ahead of the actual vote. We have assumed a 20 basis point drag but have no way of reliably quantifying the potential effect,” write BAML UK Economist Robert Wood and FX Strategist Kamal Sharma.

They think the uncertainty could also influence the Bank of England, which is expected to start raising interest rates at some point next year. While many consumers will be hoping rates stay low, the Bank of England starting to ‘normalise’ rates would actually be a sign that policymakers feel the UK economy no longer needs the crisis economic measures put in place back in 2008-09.

“The (Bank of England) will need to take account of any actual or potential drag, while the timing of the referendum could affect the BoE’s decisions: it is hard to imagine policy makers hiking rates a few weeks before a Brexit referendum, for instance,” the BAML strategists add.

The bank has been surveying investors, and almost a third are already looking at options to hedge against the risks of a UK exit, known as a ‘Brexit’.

‘Brexit’ is on most investors’ radars, with nearly a third looking to actively hedge against the risk

Source: Bank of America Merrill Lynch

The lack of a clear date for the referendum means a Brexit is well down the list of major concerns among investors for 2016. That list is topped by worries about a potential fast economic slowdown in China, followed by concerns about a slowdown in the US.

So how should investors take account of all this uncertainty and risk.

BAML is sticking with a recommendation that foreign exchange investors should own one-year GBP/USD volatility, even though the volatility has increased since the end of November.

“There is no guarantee that the EU Referendum will be held by the end of next year, but a premium is starting to be priced in,” the BAML analysts write. “Nonetheless, we reiterate that in the absence of a firm date for the EU Referendum, the FX market still lacks a firm anchor for its Brexit trading view. Whilst cognizant of the risks of a mid- to late-2016 referendum investors seem, for now, content to buy some longer dated protection on the chance that it is held then.”

This article originally appeared here: http://news.markets/forex/major-bank-warns-of-very-serious-impact-if-the-uk-votes-to-exit-eu-6693/

China introduces currency index as yuan hits four-year dollar low

The Chinese yuan hit its lowest level against the dollar since July 2011 on Friday amid signs that the Chinese authorities are keen both to weaken the currency to improve competitiveness and to divert attention away from the dollar/yuan exchange rate towards a broader currency basket.

In a statement on the People’s Bank of China website, the central bank announced on Friday that it is introducing an exchange rate index which, it hopes “will help bring about a shift in how the public and the market observe RMB exchange rate movements”. The RMB, or renminbi, is an alternative name for the yuan.

“The People’s Bank has just announced what could end up being a significant shift in currency policy,” writes Mark Williams, chief China economist at Capital Economics.

“The fixation on the dollar spot rate has put the PBOC in a difficult position in the past couple of years. Because of the link to the strengthening dollar, the renminbi has appreciated significantly in trade-weighted terms. Yet any sustained weakness in the renminbi relative to the dollar tends to be interpreted as ‘devaluation’ and trigger market concerns. The timing of this announcement is significant, on the cusp of tightening by the Fed, which could feed further dollar strength,” he adds.

Late in the European day on Friday, the dollar was up another 0.3% at 6.4538 yuan, its highest level for more than four years, as analysts speculated that an increase by the Federal Reserve in US interest rates next Wednesday is a near certainty.

“The world will be watching the renminbi more closely than usual over the days ahead. It has weakened against the dollar in recent trading. If the renminbi does continue to weaken, the key point is that this should not automatically be interpreted as devaluation or even depreciation if it is happening against a backdrop of dollar strength. The renminbi has lost ground relative to the dollar this year, but the PBOC says that it has appreciated 2.9% relative to the new basket,” writes Williams.

An important consideration in the weakness of the yuan against the dollar appears to be the anticipated Fed rate hike next week, writes Marc Chandler and his global currency strategy team at Brown Brothers Harriman.

“The PBOC still is in an easing mode. As the monetary cycles diverge, the tight relationship between the yuan and the dollar poses a challenge. However, it is important to keep in mind the magnitude of the moves we are talking about. The yuan has fallen about 0.8% this week. Year-to-date, it has depreciated by about 3.8%, making it the fourth best Asian currency performer this year, behind the Hong Kong dollar (pegged), Japanese yen (-1.6%) and Taiwanese dollar (-3.6%),” they add.

Analysts say further depreciation of the yuan remains highly likely as the Chinese authorities seek to boost economic growth and avoid capital outflows by making Chinese exports more competitive. This weekend, more Chinese data on fixed-asset investment, industrial production and retail sales should help make it clearer how successful they are being.

“Fixed investment growth probably picked up further in November in response to policy easing; similarly industrial output should also have recovered. And a tight labour market suggests retail sales growth is likely to have remained healthy too,” writes Capital Economics.

This post was first published by news.markets: http://news.markets/forex/china-introduces-currency-index-yuan-hits-four-year-dollar-low-6656/

Euro to hit record lows next year, BBH says

Currency strategists at Brown Brothers Harriman, the New York-based private bank, have repeated their prediction that the euro will test its historic lows next year. The currency’s weakest point so far against the dollar was the $0.6444 level touched in February 1985.

What seems to scare investors in the euro is not the suspension in response to the current flow of refugees into Europe of the Schengen Agreement, which abolished many of the EU’s internal borders, enabling passport-free travel between countries. It is a National Front victory for the French presidency, which alone could tear Europe asunder, write Marc Chandler, global head of currency strategy at BBH, and his team.

“And when placed in a larger context, the changes in Europe over the next few years is particularly concerning. The changes could include the UK leaving the EU, a post-Merkel Germany, and perhaps Weidmann succeeding Draghi at the helm of the ECB,” they write.

Jens Weidmann is currently president of the German Bundesbank and a member of the governing council of the European Central Bank, headed by Mario Draghi.

Our bearish outlook for the euro is not predicated on this dystopian scenario, add Chandler and his team. Instead, their “expectation that before the Obama dollar rally is over, the euro will test its historic lows is based on the prolonged divergence of monetary policy and the magnitude of that divergence well into 2017,” they write.

The strength of the dollar since Barack Obama became US president in January 2009 has weakened the euro from around $1.40 to its current level close to $1.10.

Source: Thomson Reuters

“We recognised the conflicting capital flows and did not expect parity to be seen this year. We do expect to see it next year and anticipate the cyclical low in 2017 or 2018. We see the political considerations discussed here as additional weights on the single currency’s outlook,” write Chandler and his team.

Originally published here: http://news.markets/forex/euro-to-hit-record-lows-next-year-bbh-says-6554/

Plunging oil prices needn’t keep BoE rate setters awake at night

Plunging oil prices may not lead to a huge fall in overall UK inflation, and so are unlikely to stay the Bank of England’s hand when it comes to raising interest rates.

That’s the message in the latest research from Pantheon Macroeconomics’ chief UK watcher Samuel Tombs and it comes as the international Brent crude benchmark falls to around $40 a barrel, from $50 just a month ago.

Tombs’ point is that while changes in oil prices feed through “quickly and mechanistically” into the price of petrol, they have much less influence elsewhere. Bluntly, firms are reluctant to pass on savings they make on input costs such as oil when signs of resilient consumer demand suggest they don’t have to.

“Airfares, for instance, have increased by nearly 10% over the last year, rather than falling by the 10% implied by their previous relationship with oil prices,” Tombs writes.

Moreover, while oil prices have fallen, sterling has slipped too. The pound’s slide to the $1.50 area from $1.54 in the past month will make imports to the UK more expensive and provide an inflationary offset to oil-price weakness.

None of the above is to suggest that oil will never fall to the point where Bank of England rate setters have to worry about them, however.

Of course they might.

“A further plunge in oil prices to below $30 probably would keep consumer price inflation below 1% and likely would persuade the [Monetary Policy] Committee to stand pat for a few more months,” Tombs goes on.

“But the MPC would then have to raise interest rates more quickly than they otherwise would have done, as lower crude prices will have little bearing on inflation or interest rates two to three years out.”

In Pantheon’s view then, the renewed fall in market interest rate expectations over the last few days in response to the fall in oil prices does not look entirely warranted.

Original article published by news.markets: http://news.markets/bonds/plunging-oil-prices-neednt-keep-bank-of-england-awake-at-night-6392/