Sterling has taken a pounding – but I’m looking to buy back in

Mark Carney pocketing a £20 note © Getty Images
The Bank of England’s Mark Carney has played a big part in sterling’s weakness

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I want to take a look at sterling in today’s Money Morning – the currency, not the football player – although both have been diving.

I think we may be getting close to another buying opportunity – but we are not there yet.

Mark Carney, the great leveller (of sterling)

Sterling had a great start to 2018. It began the year at $1.35 and, thanks chiefly to a weak US dollar, rocketed up to $1.43 by late January. It then went into a period of consolidation before retesting the $1.43 mark a fortnight ago.

But since then it’s been a disaster zone. As I write this now, we’re back at $1.36.

A large part of this is, simply, down to recent US dollar strength, but, as always, politics, economics and the Bank of England have played their part.

I stumbled across a great line from the former US vice president, Joe Biden, this week. “Don’t tell me what you value”, he said. “Show me your budget, and I’ll tell you what you value.” I don’t care what you say, in other words – I want to see what you actually do with your money.

This is an important principle to apply whenever listening to the utterances of the governor of the Bank of England, Mark Carney. For years now, Carney has been talking about higher rates. Yet for all the talk, Carney has only ever put up rates once – by a whopping 0.25% – and that was only after he had slashed them unnecessarily following the Brexit vote (a cut which triggered a further sell-off in an already weak pound, setting off a nose-dive which eventually reached its lowest level since the miners’ strike of 1985).

In most other walks of life, this kind of talk without action would be bordering on the dishonest, but it has been going on for so long in central banking it has become normalised.

A fortnight ago, on 20 April, Carney did it again. Having said in February that rates would rise “somewhat earlier and to a somewhat greater extent” than expected, thus setting everybody for an increase in May, he declared that expectation for a rise in May was overblown.

In other words, yet again we are not going to put up rates. He also said more interest rate rises – more? – will be coming over the next few years.

Of course, sterling sold off. That sell-off was exacerbated by the strong dollar, but sterling was weak against all major currencies.

Since then a number of political events have conspired to create a great deal of instability: the dispute over whether the UK will remain inside the customs union, thus fudging a clean Brexit; the Windrush fiasco and the resignation of the home secretary; and finally the House of Lords voting this week, by a considerable majority, against the government yet again on key Brexit legislation (I believe it’s the seventh time).

In addition, there is weakening economic data, particularly on the high street, Friday’s GDP release was disappointing, the housing market looks weak (especially in the capital), and real inflation marches on, even if core price inflation is only at 2.5%.

Meanwhile, and perhaps above all, the US dollar keeps getting stronger. It never rains but it pours.

Why I’ve bought back into sterling (a bit)

My sterling targets for the year have long since been hit, so I was waiting for a re-entry point. There’s a chance, in my view, we may now be close to it, so I actually bought some sterling yesterday.

It was only a small position and I have to say I think I’m early to the trade. But let me explain my thinking.

Long-term readers will know I am bullish on the currency and bullish on Britain. Analyst Charles Ekins of Ekins Guinness calculates the relative purchasing power parity (PPP) of currencies based on relative inflation, and arrives at the conclusion that that fair value for sterling against the dollar is actually a lot higher, at $1.60. I’m not quite at those levels, but I would venture that fair value is around $1.50.

My hocus-pocus cycle work – aka Frisby’s flux – has led me to conclude that sterling is in the early stages of a long-term bull market which should conclude somewhere in the early part of the next decade.

All the above political setbacks I regard as short-term problems and thus temporary (although I have to say if the House of Lords continues as it is, there is a real risk of some kind of constitutional crisis). Even Carney is temporary – he is due to leave in 2019.

In the meantime, sentiment has got very bearish, perhaps excessively so.

Although the short-term trend is down, the longer-term trend is up, as the chart below shows. So I see this correction as a so-called counter-trend rally.

And if you look at the chart I have drawn below, I have identified a range – see the grey shaded area – that sterling has tracked since its lows at the beginning of 2017. We’re now at the lower end of that range, though I have to say, it’s looking rather shaky.

Sterling price chart

At the bottom of the chart, you’ll see the RSI – the relative strength index – which is a measure of momentum. Sterling is the most oversold it has been since the Flash Crash of late 2016.

$1.35 is probably beckoning, but all in all, I think there’s a good chance we’ll see some sort of tradable low this week. I’m well aware that I am bottom fishing a bit and it could still go lower – hence my not being what I would call “fully invested”. Rather, I am dipping my toe in with a “speculative opening position”.

I recognise that the speed of this correction is pretty impressive and that I may be “catching a falling knife”. Perhaps we need to go to $1.30. But in the longer term I have enough confidence in sterling to make me feel comfortable with the risk of this contrarian trade now.

Maybe I should wait till the outcome of the local elections this week, which, somehow, I doubt will be good for the government. I’m conscious of the fact that, whether left or right, nobody really likes this administration.

Anyway, a small starting position is in place. We’ll take it from there.

Fingers crossed.

  • Captain Nemo

    At the risk of asking a stupid question – how would one go about buying sterling if one lives in England and only has pounds to buy stuff with?

    • Ptarmigan Ridge

      I salute you sir. My thoughts exactly.

    • Dave Parker

      If you have an account with a forex platform you can trade a currency pair, so for example sell dollars to buy pounds, without actually owning the dollars directly. They usually use leverage so the value you trade can be a lot more than what you actually have in your account, so long as you have enough in it to cover your losses if you were to exit your position at that moment or else you may get a margin call.

  • Leitmotif

    On the contrary £ will be toast. Not really because of the uncertainty over Brexit but because of severe chronic imbalances and the state of UK economy. Massive deficit, dire trade balance, and the UK;s main economy, an extortionate property megabubble bursting. GDP will prob be negative next time plus an overgenerous welfare state (why do you think they they queue up at Calais). Unlike Greeece we dont have Germany to sponge off. Currencies don’t “recover” or revert to some long term mean. Looking at Deutschmark/Euro rates the last few decades I can assure you £ comparative value always is a long term downward trend.

    • Peter Edwards

      “overgenerous welfare state (why do you think they they queue up at Calais).”

      Immigrants don’t risk their lives to sponge of the state… They do it because they know they can easily find work in Britain.

      The UK needs to raise it’s productivity and the government stop the sale of it’s most enterprising companies.

      • AAJ

        Obviously, no-one queues up at Calais to sponge off the state. It’s English people who sponge off the state, as shown by the statistics. If you simply kicked out everyone who sponged off the state, you’d end up with a country of hard working Europeans and there’d be 10 million English people in Calais wondering what happened, which would be funny. And of course, there would be no Brexit.

    • AAJ

      “£ will be toast…” …”Massive deficit, ”

      I too am concerned that the deficit has to be accounted for at some point. We’re in this crazy situation where by we (individual people) keep buying expensive items from abroad no matter how expensive they are or get. Surely, there has to be a point when this comes back to haunt us.

      On the flip side, the £ is so damn low against the Euro. Right now it makes countries like France expensive and any lower the UK would end up at the level of a Eastern European country.

      • Leitmotif

        “£ so damn low” You’re having a laugh. £ is way overvalued viz Euro. Look at PPP. Forget the Big Mac Index – the Continentals dont eat MaccyD’s often. In Germany I can get a large kebab and drink for £3.50. In the UK it would be nearly double. Lido ticket Germany £2.50 UK £6. Wont even start with property. £ will fall to way less than a Euro long term. I think you are misguided in thinking currencies revert to some long term average – they dont. £ fell for decades against the DM. UK inflation always higher.

  • Timothy Stroud

    ” Nobody really likes this administration ” is true. But nobody likes Jeremy Corbyn
    either, a relic who looks and speaks rather like Steptoe senior. It is a great mistake
    in a parliamentary democracy to be heroic – you need to be humble, hard-working,
    and determined – just like Theresa May.

    The real currency problems in the world do not concern the US dollar or the
    British pound, but they do concern the euro. Economic statistics coming out of
    Germany are falling fast, and Trump blames Germany for many things.
    Germany is no longer the dominant power in Europe. There isn’t one.

    • Leitmotif

      Have a look at the trade balance chart for the UK the last 20 years – and weep

      • Timothy Stroud

        See page 38 in TIMES today 9 May – headline ” Trade deficit far lower than
        thought “. I quote – ” Information gathered by the ONS has revealed that the
        trade deficit in 2016 was £30.9 billion rather than the £40.7 billion recorded. ”
        All these statistics are relative, and if we believed them we would weep, and
        probably jump off the nearest cliff, but we don’t. Very odd.