Sterling edges euro as growth rebounds

Summary

The EU’s migration deal avoids a government collapse in Germany, buoying the euro, whist sterling is recharged by a surprise upward revision in growth.

Uncertainty caps the euro

We think sterling will prevail. For one thing, the deal, left “a lot of work to do to bridge the different views”, according to Germany’s Chancellor Angela Merkel. Under, the arrangement, aimed at strengthening the bloc’s internal borders, EU leaders agreed to share out refugees. However, a key weakness is the voluntary nature of the deal, which leaves open the possibility that individual-state politics could undermine participation and unravel the agreement. One senior member of the CSU, the party whose row with Merkel’s CDU threatened to bring down the governing coalition, said the deal would be "difficult to implement”. It will be discussed with CSU leader Horst Seehofer in coming days. Uncertainty leaves scope for the CDU’s main coalition partner, CSU, to reject the arrangement after one of their bitterest falling outs ever, in recent weeks. At one point this week, a government collapse looked possible. Whilst that no longer looks imminent, the inconclusive pact should weigh on the euro. In the near term, weakness could be particularly visible against sterling.

UK growth rebounds

The pound has been underpinned on Friday by an unexpected upward revision of first quarter growth that was driven by an acceleration in Britain’s service industries. The ONS said the sector accelerated to 0.3% growth on the month in April and a 1.6% annual pace compared with 1.2% in the quarterly print. The expanding services sector helped bring a Q1 GDP growth revision to 0.2% compared with an initial estimate of 0.1%. It backs the view of most Bank of England policymakers that the early-2018 slowdown was temporary. In turn, credence is given to likelihood of a further 2018 interest rate rise, perhaps as early as August, after the bank’s about turn in May. Even ahead of that possibility, benchmark yield differentials already offer more upward pressure for sterling than for the single currency after the ECB’s lower-for-even-longer forward guidance earlier in the month. Elsewhere, the probability of a breakthrough on the UK’s Withdrawal Bill at the EU Summit on Friday, is low. However, after six tortuous months of slow progress in EU/UK talks, the glacial pace is largely priced into sterling. On the other hand, Germany’s political crisis still has unknowns.

Thoughts on EUR/GBP technical chart

EUR/GBP has had a habit of merely swapping one long-term range for another over the last couple of years and could be at it again. The pair is threatening a reversal of the rise from 87.21 around a week ago to a high of 88.90 on Friday. As shown by the chart below, the advance is being impeded by resistance formed of a falling trendline in place since the high on 12^th October 2017. At the same time, a slightly longer descending trendline at the lows of the range limits the falling trend since that date. Together, the pair completes a declining channel. However, there are signs of exhaustion in the move from the lower bound of the channel, beginning on the 17^th April. The upper channel wall has reached beyond Fibonacci levels that mark off a ‘natural’ move after which a retracement tends to be likely. (Note in this instance we are using the extension method that begins the extensions of the prior up leg at a new swing low). Additionally, the Slow Stochastic Oscillator was crossing in the overbought zone at the time of writing, a sign that a reversal is due, if not imminent. All in, technical factors are biased against the euro in favour of the pound in this snapshot.