BoE after Brexit

BoE after Brexit

Politics

-          As the petition of 4.1 mln people for a new referendum was rejected by UK government, we are moving to a warming up phase for exit talks and negotiating of best agreements with EU possible

-          Theresa May made it to become a new Margaret Thatcher

-          UK is working and lobbying hard during preparation phase to secure good starting position for official exit talks

-          Article 50 likely to be triggered next year, but any surprise is still guaranteed

-          Highly unlikely, the UK would use Article 50 before they feel and are ready for the talks, as they would have only 2 years to complete them. If not, they will be a third party country to EU.

Economy

-          The principal two industries the UK economy is based on are Finances and Real-estate. I believe there is no need to comment on current developments there.

-          Not only GBP suffers but recent UK data are turning sour as well. A good example was the June Construction PMI that showed first contraction in 40 months with lowest reading since June 2009. The Housing activity dropped in June as well, to lowest level since Dec 2012.

-          Due to Brexit the S&P sees:

UK GDP to decline 1.2% in 2017 and 1.0% in 2018

BoE lowering rates to 0.0% before the end of the year

They also cut the country rating by two notches to AA with negative outlook.

-          Government is looking at lowering the corporate tax to 15% from 20%, to support the business and keep the employment steady

-          EU is pushing UK to start negotiations with immediate effect to reduce uncertainty. The message from Brussels was clear, no cherry picking will happen. On the other hand, in order the UK keeps the access to free market, they would need to accept Four Freedoms of EU: Free movement of goods, capital and workers, and Right to establish and freedom to provide services.

-          Trade agreements – re-focussing on non-EU trading partners

-          Hedge funds and sovereign funds have already started to look around for possible opportunities in UK.

Bank of England (BoE)

Stability Report (released after Brexit referendum) - Brexit risks materializing, outlook challenging, BoE cut countercyclical capital buffer, expecting economic volatility, commercial real-estate risks present, investment decisions being delayed.

Carney (BoE) – BoE to provide substantial FX liquidity, to support jobs and growth, ready for Article 50 trigger and to ban banks from using extra capital on dividends. The Current account risks related to GBP moves and capital flows, weak GBP to support exporters, actions to be focussed on domestic economy.

The Current and Capital account as well as the chronic Budget deficits are huge problem for UK.

Let’s have a look at an interesting formula for UK Current account:

Sum of FDI + portfolio investments + current account = 12.8% of GDP. Portfolio investments and FDI inflows more than offset the Current account deficit of 5.1% GDP, but what if the inflows reverse? UK is still able to finance its current account with foreign money, but likely would need to decrease the consumption at certain point as the inflows reverse also on lower yields.

The market may still be underpricing the upcoming easing despite the GBPUSD printing the 85 week low below 1.2800. We may be looking at 25 bps rate cut in July, one more in August. Definitely, BoE will come up with rather decent QE (maybe additional GBP 100 bln including buying corporate bonds).

Next policy meeting is on Thursday July 14, where we will see whether Governor Carney will keep his word and BoE cuts the rates. The market is assigning the 74% probability of such a step, but other measures, comments and Minutes will be equally important.

GBP – what’s next?

Macro view – lower rates, QE with declining FDIs will be putting pressure on GBP. What about George Soros being right about BoE again and seeing cable below 1.1500 level?

Mohamed El-Erian was out last week saying the GBP can fall to parity to USD, if there is no good Brexit plan that would secure sufficient free trade deal with EU.

Good luck Champs!

Mr Hawk

landoftrading@gmail.com

DISCLAIMER: This material was created for informational purposes only and represents the Land of Trading teams view on past and current economic and capital market environment. It is not and shouldn´t been viewed as an investment advice and the creator of this material shouldn´t been hold liable for any loss resulting from action where despite this disclaimer someone would consider this material as an investment advice.