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Daily Foreign Currency Exchange Rate Forecast - Sterling Remains Under Pressure

February 9, 2011 - Written by John Cameron

The People’s Bank of China surprised the markets yesterday by increasing interest rates for the third time since the Autumn. China’s headline one-year lending rate was hiked from 5.81% to 6.06% with effect from today. China’s 12-month deposit rate was also upped from 2.75% to 3.00%. Initially, markets reacted to the tightening of Chinese monetary policy by turning away from growth-driven assets, with the price of a barrel of crude down by 1.5% at one point during yesterday afternoon’s session. The US Dollar also made gains during New York’s morning session as institutional investors shifted assets into the safe haven of the US Treasury Bill. Meanwhile, the high-yielding currencies spiked downwards on the news as risk aversion ebbed. However, appetite for risk soon picked up again with the S&P 500 closing up for the fourth consecutive trading day to reach a new 30-month high. It appears that little can de-rail the current optimism regarding the world economic recovery.

The Kiwi Dollar suffered a difficult trading day as the New Zealand Finance Minister, Bill English, commented that it was ‘possible’ that the economy had contracted in the second half of last year. New Zealand’s Q3 GDP figure showed that the economy shrank by 0.2% - any repeat of this in the Q4 would signal a dreaded ‘double-dip’ recession.

Sterling lost ground yesterday afternoon following an announcement by Chancellor of the Exchequer, George Osborne, that UK Retail Banks will be liable for a temporary tax on liabilities. Short-term liabilities will be taxed at 0.1% and longer term liabilities will be susceptible to a 0.05% levy over the next two months. This made Sterling-denominated assets a less attractive option for institutional investors in the short term and may subdue the Pound over the next few sessions as market market-makers adjust their positions. Tomorrow’s Bank of England Interest Rate will be closely watched, but market rumours of a hike in rates this month have dissipated over recent days with futures markets seeing a tightening of policy in the near-term as extremely unlikely, pricing the implied percentage chance as only 15%. This morning’s worse-than-expected UK Visible Trade Balance figure is also likely to hurt Sterling in the short term.

Elsewhere, the Euro has recovered ground following the heavy selling pressure it came under at the end of last week. ECB policy-maker Yves Mersch commented yesterday that the European Financial Stability Facility should be given the ability to purchase government securities in order to provide liquidity in European markets. The Euro looks to have benefitted from these comments.
The US Dollar could gain ground later today if the Dow Jones follows the lead set by its Asian counterparts during last night’s session and loses ground. The MSCI Asia Pacific lost 0.8% last night as investors sought out safe-haven assets following China’s interest rate hike. Readers looking to buy Dollars may wish to act sooner rather than later.

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