Getting latest data loading
Home / Blog / blog / GBP battered, UK Index flattered

This report is not a personal recommendation and does not take into account your personal circumstances or appetite for risk.

GBP battered, UK Index flattered

We’re bang in the middle of Q1 earnings season and the UK’s UK 100 index of blue-chip equities has rallied another 1.6%, easily outperforming global peers to hit its highest since early February. It’d be easy to assume that the driver was great results from big name companies, but it was actually a fall in the value of the UK’s Sterling currency that had the biggest influence. How so?

Why are you so sensitive?

A rather significant 75% of the UK 100 is sensitive to GBP strength or weakness versus currencies such as EUR and USD, especially the latter which is considered the world’s reserve currency. By sensitive I mean that the perceived value of UK Index companies’ profits and dividends (valuable income for shareholders) rises and falls depending on how the currency moves up or down.

You might assume that a stronger GBP is good for these companies, but the reverse is, in fact, true. When converting, for example, USD or EUR profits/dividends back into GBP, the stronger the GBP , the higher the GBP vs USD or GBP vs EUR rate. The bigger the number you are dividing by, the less GBP you end up with.

Only last week GBP was re-testing January highs versus USD ($1.44; best since Brexit), and its best in almost a year versus EUR (€1.16). This on the hope of further UK interest rate hikes (making UK debt more attractive, requiring GBP to invest in it) and progress on Brexit negotiations.

As it stands, these figures have fallen to €1.375 and €1.154, respectively. That’s a 4.5% drop vs USD and 1.7% vs EUR. So that’s less USD and EUR when changing up your GBP, but more GBP for your USD or EUR when converting the other way.

Buy why has GBP weakened?

Pound Sterling extended last week’s pullback versus USD and resumed its declines versus EUR, its two most influential peer currencies. This was amid continued digestion of last week’s dovish (against an interest rate rise) commentary from Bank of England (BoE) Governor Mark Carney.

He suggested recent surprisingly weak inflation (price growth) and wage growth might negate the need for a May interest rate increase (from 0.5% to 0.75%) which markets were pricing in to the tune of an 85% probability (recently as high as 95%). Some fresh Brexit negotiation uncertainty also played a role.

The issue was compounded today when disappointingly weak first quarter UK GDP (economic growth) took this probability as low as 20%. This doesn’t mean that a rate rise is entirely off the table, but that both traders and the Bank’s Monetary Policy [rate setting] Committee (MPC) will be paying even closer attention to each and every bit of UK economic data between now and the bank’s next policy meeting and decision on 10 May.

With currencies being a relative strength game, the other side of the pair also plays a part. The US Dollar remains strong thanks to, 1) the US Federal Reserve hiking interest rates (now back at 1.75% from historical lows), and, 2) income seekers purchasing the currency in order to be able to buy safe US Treasury bond yielding a rather attractive 3%.

GBP’s fall vs EUR is not as strong because the EUR is itself weak, the European Central Bank at the back of the policy normalisation curve, well behind the Fed and BoE, still buying bonds (stimulus) and a way off raising interest rates (rates still close to 0% or even negative). This means its currency is less attractive and thus less in demand, countering some of the recent GBP weakness.

That’s odd

Hence the perverse situation of bad UK economic data actually being good data, in terms of providing the UK Index and its many internationally-exposed members a boost. Because the UK Index has more to do with the rest of the world than the UK itself.

A few examples include Miners (how much do they mine in the UK? Commodities are priced in USD), Pharmaceuticals (USA = huge market), Oil majors (Oil priced in USD, operations round the world).

A meaningful GBP rebound would almost certainly prove a headwind for the UK Index . Should GBP/USD breach its 18-month up-channel and fall towards 1.35 (even 1.30), however, and/or GBP/EUR breach April lows and fall back to 9-month rising support at 1.13, it could be just what the equity index needs to help extend its recovery towards Jan 7800 highs (+4%, +300pts)

To get yourself right up to date with the UK 100 , its members and of course, GBP and its currency peers, get access to our research here and benefit immediately from our award-wining research and trading service.

Enjoy your weekend!

Mike van Dulken, Head of Research, 27 April 2018

« Back to Category

This research is produced by Accendo Markets Limited. Research produced and disseminated by Accendo Markets is classified as non-independent research, and is therefore a marketing communication. This investment research has not been prepared in accordance with legal requirements designed to promote its independence and it is not subject to the prohibition on dealing ahead of the dissemination of investment research. This research does not constitute a personal recommendation or offer to enter into a transaction or an investment, and is produced and distributed for information purposes only.

Accendo Markets considers opinions and information contained within the research to be valid when published, and gives no warranty as to the investments referred to in this material. The income from the investments referred to may go down as well as up, and investors may realise losses on investments. The past performance of a particular investment is not necessarily a guide to its future performance. Prepared by Michael van Dulken, Head of Research

Comments are closed.

Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage.
Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 67% of retail investor accounts lose money when spread betting and/or trading CFDs with this provider. You should consider whether you understand how spread bets and CFDs work and whether you can afford to take the high risk of losing your money.
.