Having spent the previous month heading south the pound continued lower during the first half of October. Its depressingly negative progress was driven by the same old reasons. Investors were unhappy with the apparently widening gap between tax receipts and government spending. They were unhappy with the possible extension of the Bank of England’s programme of quantitative easing (”printing money” as the tabloids like to describe it). They were unhappy with an endless stream of data that seemed to reinforce the idea that, for Britain’s economic situation, things could only get worse. On top of all that they had become used to the Bank of England’s almost gleeful welcoming of a weak pound. In the world of currency traders every man and his dog had a short position in sterling and they were all making money out of it.
In mid-October that attitude ran out of steam. With substantial unrealised profits in the bin investors began to take their profits. They started to buy back the pounds they had sold, sometimes ten cents more cheaply than they had earlier sold them in August. From its October lows this “short covering” took sterling as far as €1.11. It was at this point that the pound had to face a week of potentially dangerous economic data and news. It managed to shrug off £15 billion of new government borrowing and the minutes of October’s Monetary Policy Committee meeting were bland enough to do no damage. A disappointing figure for UK retail sales could have been a problem but, at zero, it just avoided being negative. Sterling was knocking on the door of €1.11 again when the figures for Britain’s economic performance in the third quarter of the year came out.
Economists had predicted that gross domestic product – the broad-brush measure of performance – would have increased by +0.2%. Had it done so, Downing Street and the media could have trumpeted the end of the recession and everybody could have relaxed. In the event, the analysts turned out to have got it completely wrong and the figure showed a decline of -0.4%, marking the longest UK recession in recorded history. Investors who would have been relieved by even a tiny increase were horrified by yet another contraction in the economy. Sterling fell off a three-cent cliff.
What happens next will be interesting, to say the least. In the immediate aftermath of the GDP shock sterling has performed surprisingly well. Despite their severe knee-jerk reaction at the time investors are no longer so convinced that things can only get worse. Auditing firm KPMG reckons that confidence among business leaders is at its highest for 18 months. Investment bank Goldman Sachs has reiterated the recommendation to its customers to buy sterling. Perhaps best of all is HSBC’s assessment of the budget gap. For months, everyone has been sneering at the government’s projection of a £175 billion borrowing requirement this year. Cynically, they assume that any figures coming from the Treasury must have been massaged by the spin doctors, a “best case scenario” if you like. Now, according to HSBC’s UK economist, it might be that the government will need £20 billion less than that.
So the über-pessimism surrounding sterling could be on the wane. Whether that will translate into a sustained rally is doubtful. Nevertheless, it might be enough to banish the idea of sterling/euro parity that some commentators have been bandying around.
It does not, however, remove the need for caution if you are planning a euro property investment. Sterling’s up/down/up/down movement makes it blindingly clear that to predict its immediate course is a fool’s errand. That being the case, there is no alternative but to take a neutral line on any sterling/euro exposure. Hedge half the euro requirement and wait to see what happens. As ever, if the underlying investment is imminent buy the lot.
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