Pound-to-Dollar Rate Goes Bust as Federal Reserve ‘Ghosts’ on Sickly Stock Markets

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- GBP/USD Spot rate: 1.2773, down -1.00% today

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The Pound suffered heavy losses against the Dollar Friday as stock markets dived further into ‘correction’ territory and a Federal Reserve (Fed) official suggested it will not cut interest rates to save investors from losses. 

Pound Sterling was down against all safe-haven currencies as investors jettisoned risk assets from their portfolios and sought the perceived safety of sovereign government debt, forcing bond yields that are normally negatively correlated with stock markets, down to new record lows. 

And in the process, the Pound-to-Dollar rate has snapped a multi-month uptrend, leaving it vulnerable to a more protracted period of losses. 

“Only a close below 1.2849/41, the recent low and support line would put the 55 week ma at 1.2799 and the 200 day moving average at 1.2697 back on the plate,” says Karen Jones, head of technical analysis for currencies, commodities and bonds at Commerzbank in an early morning research note.

Sterling fell through a crucial technical support level at 1.2841 to trade comfortably beneath the 1.28 handle heading into the London close, although subsequent price action and a fibonacci retracement of multi-month trend indicates the exchange rate might find support around 1.2744.

"Markets are awash with fear and risk aversion today, with this dire sentiment manifesting as a sea of red in equities and carnage for almost any currency other than the havens. In terms of equity losses and the sheer sharpness of the moves in fixed income and FX, this has to be by far the most dramatic risk-off move since at least 2015, and perhaps earlier," says Ranko Berich, head of market analysis at Monex Europe. 

Above: Pound-to-Dollar rate at daily intervals with 50% Fibonnacci retracement line offering support at 1.2744. 

The Pound had already been tumbling all day when James Bullard, who runs the Federal Reserve Bank of St. Louis and is non-voting member of the Federal Open Market Committee this year, said around 15:30 that financial markets “might be overstating the risk” posed by the coronavirus that’s spreading rapidly outside of China just as numbers declared by the world’s second largest economy suggest its own infection is now under control. 

Bullard told the Fort Smith Regional Chamber of Commerce that ongoing declines in bond yields, driven by investor fears of the coronavirus impact on the global economy, would likely remain low until the virus is clearly contained and that this would stimulate the U.S. economy. He acknowledged firms’ profitability would be impacted by the virus’ effect on the Chinese and global economies but played down the stock market falls, noting that “even with recent declines in equity prices, the value of the U.S. publicly traded corporate sector has increased at an annual rate of about 4.7% over the last two years.”

He also indicated the FOMC will stick to its well-worn line that interest rates are in a good place after three ‘insurance’ cuts last year and that it'd take a material change of the outlook for that to change, before saying coronavirus won’t meet that bar unless “a global pandemic actually develops with health effects approaching the scale of ordinary influenza.” 

“Well we are just about there already chum,” says Mark Wilson, chief market analyst at markets.com. “There is a slim chance it comes out on Sunday with a statement to calm markets...There is definitely an argument that the Fed should step in stop the rout on Wall Street as this will eventually create a negative feedback loop that feeds into the real economy whatever happens with the virus outbreak itself. The worry is that the collapse in equity markets leads to problems in the real economy, such as tighter financial conditions, that creates a recession even if the impact from the virus is limited.”

Above: Dollar Index shown at hourly intervals. Measures USD Vs EUR, JPY, GBP, CAD, CHF and SEK. 

Many U.S. bond yields have fallen to new record lows repeatedly this week and now sit far below the Federal Funds rate while pricing in the overnight-index-swap market has shifted over the course of this week to implying that a March 18 rate cut is a certainty. The market-implied cash rate for March 18 was just 1.37% on Friday, bang in line with where it would sit if the Fed Funds rate range came down from 1.5%-to-1.75% to between 1.25%-to-1.5%.

That movement in the overnight-index-swap market explains why stock markets might be further rattled and the Dollar supported if the Fed sticks to its line that coronavirus would need to become as prevalent as the seasonal flu that’s thought to infect between three and five million people per year for the bank to think about cutting rates. The Dollar had also been sold throughout much of the week and yields collapsed, the swap market moved and equities cratered. 

Bullard’s idea is that the impact of coronavirus on the Chinese and global economies should be limited and followed by a quick recovery although TomTom congestion measurement figures suggested traffic in the Chinese capital Beijing was still nearly 50% below normal levels this week, and any recovery in China could easily be offset in the broader picture of the global economy if outbreaks are growing fast and becoming increasingly disruptive elsewhere. 

“Our review of prior studies (See “Pandemic Perspectives”, CIBC Economics, Feb 2020) shows impacts from flu pandemics have sometimes been large enough to tip an economy into a significant recession. With the virus hitting different regions at different times, a quick v-shaped rebound isn’t guaranteed,” says Avery Shenfeld, chief economist at CIBC Capital Markets. “Imagine the toll on GDP if New York, Toronto, Chicago and Vancouver looked like Wuhan or even Milan in recent days.”

Above: Dollar Index shown at daily intervals. Measures USD Vs EUR, JPY, GBP, CAD, CHF and SEK.