Children bouncing on a trampoline

Can the pound bounce back after a series of missteps?

Demitri Theodosiou

Demitri Theodosiou | Head of FX and Interest Rates Trading

Will the pound finally stabilise after a tumultuous year? Read Head of FX and Interest Rates Trading Demitri Theodosiou’s latest “Thoughts of an FX Trader”.

 

The sunshine breaks of the summer holidays are now a distant memory and somehow the year is already starting to draw to a close around me. Caught off guard, I only noticed winter was approaching due to the cold, dark, dreary morning starts setting in.

As a parent, the constant in my life that spans all seasons is weekend birthday parties. I recently took my youngest to a massive indoor trampoline park to celebrate his friend’s birthday, a favourite when the weather has turned. For anyone that’s never been, it’s great fun for all ages, although with tens of kids hurtling about at breakneck speeds on bouncy floors there is certainly a risk of medical attention being needed.

The standout memory for me was when Matthias first arrived and ran as fast as his little legs could carry him towards a series of small trampolines in a long row. As he reached the first trampoline, he was going far too fast, and with his weight loaded forward, he misjudged how much the floor would give way on the first trampoline. The trampoline bounced him up, keeping his momentum going, and the steps that followed were a calamitous series of bounces across multiple trampolines where his weight went further and further forward until he eventually crashed down.

I couldn’t help but laugh, but you will be happy to know he was fine in the padded environment. As he dusted himself down and started bouncing up and down on a trampoline with his friend, one would hope he was slightly wiser from the experience.

In politics and financial markets, it is hard to know where to begin since I last wrote Thoughts of an FX Trader. The pound has suffered a set of calamitous missteps since the summer, falling further and further until it came crashing down to print an all-time low against the US dollar.

The pound has suffered a set of calamitous missteps since the summer, falling further and further until it came crashing down to print an all-time low against the US dollar.

There is an argument that says the first step where the pound started losing its footing was the Bank of England’s misconception that inflation would be transitory, leaving the central bank to play catch up with energy prices, which are embedded into the input costs that affect all parts of our lives.

The UK government carried on the tumbling trajectory in recent months with an eventful period in UK politics, starting with Boris Johnson resigning in the summer, moving to Liz Truss’s brief tenure as PM, and ending with Rishi Sunak now taking the helm. We are on our fourth (yes fourth) chancellor since the summer, after Kwasi Kwarteng left his post in the aftermath of the ‘mini-Budget’ that caused havoc both in UK interest rate and currency markets alike.

The final misstep in some commentators’ eyes could be the swing from fiscal policy looking to boost growth and cut tax (albeit delivered in an unfunded, untested way) to a level of tax rises and fiscal austerity not seen since the financial crisis 14 years ago, as the government aims to regain fiscal credibility on the global stage.

Much like my son, after its big fall, the pound has gotten back up off the floor, dusted itself down, and settled back at levels closer to 1.20 against the US dollar. The real question is how last week’s Autumn Statement will impact UK markets going forward.

Jeremy Hunt seemed clear when delivering the latest fiscal plan that the government is very focused on regaining credibility in financial markets, perhaps more concerned by that than by the potential impacts of further tax rises on the economy in this high inflation, high cost-of-living environment. So far, that has helped steady the ship in both currency and interest rate markets, although we are yet to see how this impacts in the medium term.

In FX markets, we must remember with currency pairs that there are two currencies that drive exchange rates.

But in FX markets, we must remember with currency pairs that there are two currencies that drive exchange rates. The US dollar has been slowly giving up its gains of the last year after the US Federal Reserve has started to make noises that the end of its rate hike cycle could be approaching, so it may well be a weaker US dollar that drives the pair going forward.

Likewise with the euro, we may be entering a difficult winter period for the bloc, and its reliance on Russian energy supplies may cause some scares for the single currency. Further, it seems recessions loom for many developed economies that have had to increase interest rates rapidly to fight spiralling inflation pressures – not just in the UK. With a UK downturn widely expected, it may well be the relative plight of other countries that keeps the pound from falling further in the short term.

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