Investec Bank Exchange Rate Forecast Update: April 2018

-Global growth set to continue apace in 2018 despite Q1 blip.

-Trade protectionism fears to fizzle out and currency trends continue.

-GBP, EUR can hold gains but USD will resume its decline before long.

© Chris Titze Imaging, Adobe Stock

Currency markets have reached an inflection point at which key trends of the last year or more have been called into question although, according to the latest forecasts from Investec Bank, the eight weeks to the end of April are merely just a blip for currency markets and the global economy. 

The forecast update comes at a time when the US Dollar has called a halt to a 12 month decline while the Euro ceded its crown as the currency market's darling and Pound Sterling was annointed the developed world's best performing unit for the first quarter.

A slowdown in growth momentum across the developed world in the opening quarter of the year and a sudden escalation of disputes over international trade practices are two other significant curve balls to have been thrown the way of traders, positing questions about market expectations for growth and monetary policies over the rest of the year.

All of these factors have augured a sense of risk and uncertainty across markets, which explains the relative improved performance of the US Dollar during the recent quarter, but what matters now is how much longer these issues remain a concern.

Investec economists have stuck to their forecast for an mild acceleration of global GDP growth this year, as well as for a steady performance from the US, UK and Eurozone. They are also predicting a gradual deescalation of trade tensions and, to some extent, a resumption of earlier trends that saw Pound Sterling and Euro shine while the Dollar slumped.

Source: Investec

Pound Sterling 

"Mark Carney set the cat among the pigeons by stating that data in Q1 had been ‘mixed’ and that this would be discussed at the MPC’s May meeting. Bearing in mind the weather conditions, this should hardly come as a surprise, and perhaps the BoE Governor was really referring to the inflation numbers."

"We agree that there may be more debate on the committee, given the speed with which inflation is coming down. But we still judge that the MPC collectively will consider mediumterm inflation risks to be on the upside and that this will be signalled in the 10 May Inflation Report via its projections and a 25bp increase in the Bank rate to 0.75%."

"We still consider sterling to be materially undervalued and that progress on Brexit should be supportive. But we remain reluctant to recommend an end-year target much above $1.40 and 87p against the euro, given growing thoughts over a possible Labour government emerging in 2022."

"The govt faces a short-term test on 3 May in elections for 4350 local authority seats in 151 mainly urban areas. The 32 London boroughs will gain much attention - some claim that the Conservatives could lose all eight boroughs under their control. They do seem set to lose some councils, partly due to Brexit but also given a more general pro-Labour shift in the capital in recent years. The detailed picture though is highly nuanced and our feeling is that the Tories will hang on to a number of Councils."

Source: Investec.

Euro 

"Q1 GDP growth looks to be weaker than we previously envisaged. But we are relatively relaxed over the risks of a more prolonged slowdown...We now expect GDP growth of 2.3% in 2018 (previously we had 2.4%), but our 2019 forecast is nudged up a touch at 2.2%."

"Assessing the true extent of the recent data weakness will be an important evaluation for the ECB. Policy evolution so far has been based on the assessment of above trend growth continuing, strengthening confidence in inflation returning to target."

"Absent a further deterioration in economic data we expect the ECB to take its next policy step in June, confirming a taper and end of QE this year. However a change in rates is still some way off with the market priced for a deposit rate hike in H2-2019."

"Our own view is for a 20bp hike in Q2 2019 taking the deposit rate to -0.20%. Ahead of any 2019 rate move the ECB will need to provide markets sufficient notice. This we suspect will come in September with an evolution of its rates guidance."

"We expect the USD to gain ground in Q2 as the FOMC’s rate view aligns with our own for four hikes this year, though we maintain our year-end €:$ forecast of $1.22."

Source: Investec.

US Dollar

 "Q1 GDP figures due on 27 April are likely to show the US economy expanded at a slower pace than in Q4. One reason is the ‘residual seasonality’ which typically plagues Q1 figures and adverse Q1 weather conditions too...ahead of Q1 GDP figures, we have left our GDP growth forecasts for this year and next unchanged at 2.7% and 2.3%."

"Spending should also be supported by tax reform, although most of the tax cuts will show when people file their returns in 2019. Indeed a February Politico poll found that just 25% of registered voters had noticed an increase in their pay check."

"Ahead of the November mid-terms, Trump’s approval rating is low after 451 days in office. Interestingly though (Chart 8) his approval rating has not fallen (from opening poll levels) as much as President Obama’s, Carter’s, Ford’s or Truman’s had, at the same stage...maps of competitive seats show the Democrats with a realistic shot at retaking the House and standing a (lesser) chance of doing so in the Senate."

"The minutes to the March meeting showed the FOMC viewing trade disputes as adding downside risks to its forecasts. The settling of trade concerns since then, is seen as adding to the chance that the Fed presses ahead somewhat more concertedly with rate rises over coming years. As such we have seen Treasury yields move higher whilst rising inflation expectations also look to have added to longer term yields."

"We judge that the current risk backdrop lends itself to the Fed continuing along its gradual tightening path. The ‘dot plot’ implies two further hikes in 2018 whilst our view is for a, still gradual, three."

"With the Fed likely to maintain a gradual approach to rate rises, we think the dollar will struggle to rise broadly in the medium term. However, in the near term we may see the USD continue to make gains as in recent days, particularly if the Fed adds another 2018 dot into its plot. We continue to see €:$ ending 2018 at $1.22 whilst we see $1.30 end-2019."

Source: Investec.

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