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Home / Special Reports / The Spring Pound Bounce

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

30 April 2018

The Spring Pound Bounce

Financial markets can feel distant from everyday concerns of an average household or business, but there is one aspect of it that almost everyone is familiar with: currencies and foreign exchange (FX).

Even people who are not directly involved with trading on the financial markets often find themselves in a situation where they need to exchange one foreign currency into another. There is a multitude of very common situations where having foreign banknotes can be a necessity, for example:

  • Travelling on holiday
  • Funding a purchase of an imported car, or
  • Buying a retirement property overseas

In many situations, people can acquire spending money by simply visiting a retail bank in the country they are visiting, but that is not always an optimal solution.

While using a bank can be sufficient in case of small amounts of cash, converting large sums of money requires preparation, knowledge of FX rates, and understanding of transaction fees and bank transfer rules.

Furthermore, British businesses are increasingly international and need to navigate the complex waters of global payment systems to cover outstanding invoices and safeguard the value of their overseas assets.

People who are faced with these tasks often struggle with managing their FX transactions while running a busy business or a household at the same time.

While retails banks have served a central role in converting currency in the past, nowadays people are increasingly turning to specialist providers to manage their FX requirements.

Here are some of the typical questions people ask themselves:

  • “Which currency do I need for my purchase?”
  • “When can I get a better exchange rate?”
  • “How do I manage transaction fees?”
  • “Can I protect my business from FX volatility?”

These and other concerns give rise to a demand for a comprehensive support structure that can cater to people’s specific FX needs.

Spring Bounce

Many foreign currency traders believe that FX markets are subject not just to macroeconomic forces, but also to certain seasonal patterns that can be studied and harnessed to secure a better deal.

There is often a discussion about a so-called Spring Bounce, a pattern in FX trading that suggests that the second quarter (Q2) of the calendar year (April to June) sees an increase in FX trading and a stronger Pound.

If a Spring Bounce truly exists, then understanding this pattern and being prepared to take advantage of it can be a way for FX traders to secure favourable rates in anticipation of future foreign currency needs.

Making a large-scale purchase, whether at home or overseas, is an important financial investment, and a smart investor is, first and foremost, an informed investor. That means understanding how the FX markets work, who sets the FX rate, what causes the FX rate to fluctuate, and how to take advantage of FX rate changes to save money and have a more financially-rewarding investment.

Read on to find out more about the key factors influencing FX markets.

Page: 01

Rules of the Road

The strongest factors influencing the direction and momentum of the FX rate are major macroeconomic indicators, chief among them the changes in the Bank of England’s (BoE) key interest rates. Higher interest rates make the currency more attractive and lead to a stronger Pound. Interest rate policy is determined by the Monetary Policy Committee (MPC), which meets several times a year and whose decisions are closely watched by all FX traders.

Seasonal factors play an important, but secondary role in determining the FX rate. FX market trading activity is heavily influenced by the concept of volatility. In finance, volatility is a measure of variation in a trading price of a financial instrument (such as an FX rate), measured over time. Volatility is a function of supply and demand, meaning that volatility is high in periods of increased trading activity, and low when trading volumes are decreased.

While volatility is often associated with risk, it is simply a measure of how actively buyers and sellers are making trades. In this manner, measuring volatility can be used as a rough proxy for “trading activity” in general. Seasonal periods with higher volatility tend to have more trading activity, and vice versa.

There is an observable increase in market volatility in the first two quarters of the year, but this is not always directly correlated with a stronger GBP in the same time period. Seasonal behaviour patterns exist in FX markets, but they do not necessarily always affect the direction in which the FX markets move. Seasonal patterns have a much stronger effect on the volume of trading, rather than on the FX rate itself. Beginning of the year is often marked by an increase in trading activity which typically begins to subside as the markets approach summer months, with August being a low point of the year in terms of trading volumes.

Charting the Future

Ultimately, when making a decision to buy or sell foreign currency in anticipation of a large-scale foreign investment, businesses and households need to take into account crucial macroeconomic factors that influence FX markets.

The key events for the upcoming Q2-Q3 2018 that will need to be taken into consideration by people trading Pound Sterling (both EUR/GBP and GBP/USD pairs) include the all-important MPC meetings on the following dates:

  • May 10, 2018. Consensus likelihood of rate change: 6% (down from 85.9% a week before)
  • June 21, 2018. Consensus likelihood of rate change: 7% (down from 85.8% a week before)
  • August 2, 2018. Consensus likelihood of rate change: 6% (down from 70% a week before)
  • September 13, 2018. Consensus likelihood of rate change: 2% (down from 69% a week before)

 (Source: Bloomberg, 26.04.2018, World Interest Rate Probability)

FX traders need to pay especially close attention to the May 10th and August 2nd MPC meetings, when the BoE will be releasing its Inflation Report Publications, reports that set out inflation projections and heavily influence Bank policy on key interest rates.

Earlier this season, analyst consensus on Bloomberg had a high level of confidence that key interest rates will be increased this year, leading to a stronger Pound Sterling. If rates stay unchanged through the year, the Pound could come under downward pressure, so paying close attention to BoE announcements is critical for FX traders.

Other important news that FX traders interested in either GBP pair also need to consider is the outcome of Brexit negotiations. Any news of successful resolution of outstanding issues regarding the Irish border and the rights of EU citizens living in UK is sure to be taken positively by the market and has the potential to further strengthen the Pound.

Finally, release of other key data, especially related to UK economic growth, unemployment and incomes, can also have a major effect on Pound Sterling in the coming months. Further news of stagnant wage growth can put GBP into negative territory, so market participants need to be aware of future announcements and be prepared to safeguard their FX investments.

GBP/USD

 

(Source: CMC Markets, 26.04.2018, 1 Year, Daily Chart)

In the short-to-medium term, GBP/USD could remain under the twin pressures of low interest rates and lower than expected inflation, rangebound between levels of 1.37 and 1.43, with longer term technical indicators pointing toward a stronger Pound. This longer-term support level at 1.39 has been heavily tested in the recent days and it remains to be seen whether there is potential for a bullish reversal toward 1.43.

EUR/GBP

(Source: CMC Markets, 27.04.2018, 1 Year, Daily Chart)

Much like its transatlantic “cousin”, EUR/GBP is currently trading in a range, but with a more pronounced negative momentum going into Q3 2018. This FX pair has been testing support levels of 0.865, with a potential to break through to 0.879. There is upside all the way to 0.895, however, reaching it in Q2 2018 is predicated on significant changes in the macroeconomic environment.

FX Markets are a constantly evolving ecosystem that is influenced by a large array of complex factors. The next section will outline the structure of FX markets and their main driving forces.

Page: 02

FX Markets in Review

The most important and most commonly used currencies in international financial operations are the US Dollar (USD), the single European currency Euro (EUR) and the Pound Sterling (GBP). These currencies are traded on all major FX exchanges and are traded as pairs: EUR/USD, GBP/USD and EUR/GBP.

The first pair, EUR/USD, is the most popular currency pair in the world, reflecting the relative strength and security of the two largest global economies. Major factors that influence the EUR/USD pair are the key interest rates set by the European Central Bank (ECB) and the US Federal Reserve (Fed). Other key economic indicators (e.g. unemployment, economic growth and trade balance) can have major impact on EUR/USD trading, especially if the announcements diverge from economists’ expectations.

(Source: AlphaTerminal, 26.04.2018, EUR/USD, 1 Year, Daily Chart)

While this pair has seen significant volatility through the years, especially in the aftermath 2010-2012 European Sovereign Debt Crisis, in recent times EUR/USD has been steadily strengthening. The first quarter (Q1) of 2018 has seen the EUR/USD pair trade in a relatively stable horizontal channel, starting the year at the low of 1.191, but then finding support around 1.219 and trading as high as 1.255 in the middle of February. EUR/USD is currently trading at 1.223 and once again testing the lower bound of horizontal channel.

The state of the GBP/USD pair is often taken as a barometer of the UK economy and the markets’ confidence in the overall state of British political system. Pound Sterling has been making a slow, but steady recovery since the shock of the Brexit referendum and the first few months of 2018 have seen GBP strengthening against the US Dollar. The total amount of Pounds Sterling held by foreign countries as their currency reserves has been steadily growing since the beginning of 2017, reflecting global demand for GBP.

That positive dynamic has been, however, interrupted in the middle of April 2018, when a series of negative economic results (including slower than expected wage growth and lower than expected inflation) sent Pound Sterling versus the US Dollar, further exacerbated by the news that the Bank of England, a key financial regulator, might be hesitant to raise interest rates during its May 2018 meeting. So far in 2018, GBP/USD pair has traded as high as 1.437 (in mid-April) and as low as 1.345 (early January).

(Source: AlphaTerminal, 26.04.2018, GBP/USD, 1 Year, Daily Chart)

A close “relative” to the GBP/USD pair is the EUR/GBP pair, which is often seen in the post-Brexit environment as a bellwether of economic and political relations between United Kingdom and the Eurozone. While similar economic factors influence relative strengths of the Euro and Pound Sterling as with GBP/USD, in recent months trading in EUR/GBP often reflected the state of Brexit negotiations.

These negotiations have continued apace and FX traders are expressing confidence that major issues related to unwinding the common market, national borders and citizen rights will be successfully resolved. In 2018, EUR/GBP pair has stayed in a narrow trading range, with highs of 0.896 in the middle of March and lows of 0.862 in the middle of April.

(Source: AlphaTerminal, 26.04.2018, EUR/GBP, 1 Year, Daily Chart)

Page: 03

Trader Mindset

Economic data and financial news are an important component in understanding why markets make moves in certain directions, but it’s not the only reason why FX rates change. To get a better understanding of FX, it is equally important to know the people who make up and influence the market.

The name “FX Market” is a way to describe the vast multitude of people who engage in FX operations. Every single publicly recorded currency exchange transaction makes up what we call the market. Some traders are individuals who buy and sell FX for themselves. Other traders belong to large banks. Individually, they all have a very small impact on the overall market, but when put together, they exert a force that moves the currency pairs in a specific direction. The size of the FX market averages more than $5 trillion per day, according to a 2016 survey by the Bank of International Settlements.

Some of these transactions are “algorithmic”, meaning that they follow a set of automated parameters such as timing, price and quantity that determine when a clever computer programme will execute a trade. Even though trading algorithms are computerised, rules that govern them and tell them what to buy and sell are still set by people who are subject to typical human drivers and motivations.

Seasonality in FX Markets

What influences FX traders? How do they make trading decisions, both on a daily basis, and over a longer period?

All traders listen to the news and try to parse announcements from influential economists, corporate decision makers and political leaders. They look at the state of the economy and try to understand how key economic indicators would strengthen or weaken one currency in relation to others.

But even on a more basic level, traders follow typical seasonal life patterns. As the saying goes on London financial trading floors: “Sell in May and Go Away”. There is a commonly held belief that trading activity decreases during summer months and that the year can be roughly divided into two major halves: November to April, and then May to October.

According to this view, November to April is a part of the year that is rife with trading activity. With exception of a small window of inactivity around late December (due to Christmas), the rest of the period sees big trading volumes. Trading is believed by some to be more predictable, the patterns more easily discovered and less chance for uncertainty to affect investments.

Pattern Recognition

Examining the charts, FX traders can spot certain quarterly patterns in volatility throughout the recent years. GBP/USD pair in 2015 has seen an uptick of volatility in the March-April period, mirroring intense trading activity. Volatility dropped sharply in mid-April and increased once again in May (while the Pound strengthened in the previously discussed Spring Bounce). After that it started to steadily decline throughout the summer months, culminating in very low levels of market volatility during the month of August. It once again picked up in September and remained steady for the rest of the year.

(Source: AlphaTerminal, 26.04.2018, GBP/USD, Daily Chart, 2015)

At the same time, the method of examining volatility patterns as a proxy for market trading activity has its obvious limitations. Certain political and economic events can have such an enormous effect on FX markets that they “smother” all other potential seasonal patterns. This can be observed in examining the GBP/USD 2016 chart, dominated by an “explosion” of market volatility during the summer of 2016, in the aftermath of the Brexit referendum.

(Source: AlphaTerminal, 26.04.2018, GBP/USD, Daily Chart, 2016)

Nor are these seasonal volatility patterns uniform or unchanging. Comparing the GBP/USD 2017 market volatility chart to the one from 2015, it becomes apparent that while there are observable upticks of market volatility during certain times of the year, these patterns do not repeat exactly year to year.

(Source: AlphaTerminal, 26.04.2018, GBP/USD, Daily Chart, 2017)

In 2017, there is an earlier increase in market volatility in the Q1. During Q2 2017, there is another, slightly smaller, increase in market volatility, but this time mirrored by a 4-5% strengthening of GBP/USD (more evidence of a potential Spring Bounce pattern). As in 2015, summer months show less market volatility, but it picks up once again in September, mirrored by yet more strengthening of GBP/USD.

Similar patterns can be observed while examining EUR/USD and EUR/GBP charts for 2015 and 2017, with 2016 volatility chart again dominated by the Brexit and, hence, not particularly useful for spotting any FX trading patterns. There are periods throughout the year that see marked increases in market volatility, especially in Q1 and Q2, but these periods do not match perfectly every year and are often tied to major economic events and announcements.

(Source: AlphaTerminal, 26.04.2018, EUR/USD, Daily Chart, 2015)

(Source: AlphaTerminal, 26.04.2018, EUR/GBP, Daily Chart, 2015)

There are more obvious periods of volatility downturn throughout the calendar year. These are typically observed toward the end of summer, as well as in late December, which can be traced to a decrease in market activity due to many FX traders leaving work for holidays.

(Source: AlphaTerminal, 26.04.2018, EUR/USD, Daily Chart, 2017)

(Source: AlphaTerminal, 26.04.2018, EUR/GBP, Daily Chart, 2017)

Looking for patterns in market data can be time-consuming. British businesses and households require a reliable partner that can help them chart their way through financial markets and support their needs with innovative FX solutions.

Page: 04

Supporting your Investment

Exchanging money can be a complicated affair. The concept of timing is very important in the financial markets and it can be doubly important for trading FX due to the seasonal patterns demonstrated in this report.

In order to take advantage of seasonality on FX markets, traders often need to continuously monitor foreign exchange markets and follow important events. Not only that, but the transaction fees charged by banks for FX operations can often become a burden for many people who aspire to trade foreign currency.

Accendo FX offers FX treasury solutions at a going market rate, which could save you thousands on each transaction compared to going to a retail bank.

Detailed examples of how trading with Accendo FX can benefit you can be found in this handy guide.

Single Point of Contact

As an outsourced treasury solution, Accendo FX can offer you a close partnership with an experienced and knowledgeable trader to manage your FX exposure.

Instead of a cumbersome process of explaining your FX needs to a retail bank operator every time you want to conduct a transaction, there is a lasting relationship of trust between you and your Accendo FX trader.

Flexible Trade Execution

Apart from a suite of direct FX products, Accendo FX team can offer products such as forward contracts, agreements where a small deposit can be placed on a much larger transaction to lock in the value of that trade at the current market price.

By utilising these contracts, you can safeguard yourself from the uncertainty of FX market volatility, and potentially lower average FX transaction costs. Forward contracts can remain in place for up to 12 months, with the ability to act on them at any time.

You are in Control

 Accendo FX team will assist you with execution side only; your assigned trader will not offer advice or recommendations on when to exchange your money. At the same time, Accendo FX will provide you with a comprehensive support structure that will enable you to be fully informed and take charge of your money.

For repeat FX transactions, Accendo FX team can assist you in setting up weekly or monthly payments, facilitate the use of forward contracts and help you navigate the risks involved in foreign exchange markets.

For further information on how you could benefit from a relationship with Accendo FX, make sure to download your free Currency Exchange Guide here.

Page: 05

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Page: 06

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

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