Carney-val for the pound could be short-lived

<p>The pound had a sharp move higher at the end of trading on Monday as Mark Carney, Governor of the Bank of England said that […]</p>

The pound had a sharp move higher at the end of trading on Monday as Mark Carney, Governor of the Bank of England said that he would extend his tenure at the Bank of England until June 2019.

Why not stay until 2021, Mark?

While this is considered a welcome sign of stability in exceptionally uncertain times, one has to ask why he is so reluctant to stay on until 2021, when the term officially ends? An extra year is good, however the uncertainty caused by Brexit makes it very difficult to anticipate the health of the UK economy in three years’ time. Thus, even after today’s announcement, Carney may still leave the Bank of England at a delicate time for the UK economy, as the government tries to navigate a smooth exit from the EU.

Could the BOE Inflation Report provide a sweetener for GBP?

The markets are breathing a collective sigh of relief that Carney has extended his term, after all, if he extended it once, could he do so again? The pound has enjoyed a major turnaround, and is the best performing currency in the G10 at the start of this week. It is higher by a decent 0.5% against both the USD and the euro, and has also done well against the yen. Whether or not it can hold onto these gains may depend on what Mark Carney has to say when he gets back to the day job on Thursday and presents the Bank’s latest Inflation Report. We think that the bigger risk is that the Bank actually upgrades its GDP forecast for next year, based on the better run of data for the second half of 2016. Although the Governor is likely to reiterate the uncertainty around the outcome for the UK economy once Article 50 is triggered, it is the forecasts that matter for traders. If they are upgraded, expect a broad-based rally in the pound and other UK based assets, as some dare to dream that the UK economy could perform well during EU exit negotiations.

Even so, the pound’s post Carney splurge may be short-lived, as his decision to stay on until 2019 may not be long enough. GBPUSD met some resistance above 1.2250, and we may have to wait until we hear from Carney on Thursday to determine if this rally has the puff needed for GBPUSD to get back to 1.25.

With plenty of other news to distract the stock markets, we don’t think Carney’s announcement can do much to light a fire under the FTSE 100. Key earnings releases from BP and Shell on Tuesday morning are likely to determine whether the FTSE 100 can stay above 6,898 – the 50-day moving average, and a key support zone.

The Government needs to keep its chequebook handy

A word on the news last week that Nissan has committed to continue to make cars at its Sunderland plant. While this is good news for the UK economy, especially in Sunderland, it would be useful to know what type of sweeteners the valuable in terms of jobs and tax take to the UK economy than carmakers, surely the same type of confidence-boosting deal will be offered to the City? This begs the question, is the consequence of Brexit a very expensive way of maintaining access to a single market that we used to be able to access for free?

Risks relating to “the Donald” not truly priced in

The US election continues to muddy the outlook for investors. Until the risk of a Donald Trump Presidency is eradicated, it is hard to see the S&P 500 go anywhere fast. Technical indicators are pointing lower, and with the index below both the 50 and 100-day moving averages, there could be further downside for the US index back towards 2,078 – the 200-day moving average – in the coming days.  The US index hasn’t even reacted to the spate of mega M&A deals in October, worth some $500bn, one of the busiest M&A months’ for 12 years.

Election risks keep investors’’ on their guard

Interestingly, the treasury market is not showing signs of pre election jitters. There has not yet been significant safe haven flows into Treasuries, pushing yields lower (10-year yields are at their highest level since May), which suggests that the bond market is not pricing in the prospect of a Trump win next week. Although we think Clinton will win the race, an upset the size of Trump could trigger a major sell off in stocks and a rapid flight to safe havens like Treasuries and the yen. Treasury yields are likely to fall fast as the market prices out the prospect of a Fed rate cut in December. This is one reason why we expect the Bank of Japan to signal no change to its monetary policy programme today; if Trump wins next week then it may need to save its ammunition to dampen a massive surge in the yen in the aftermath.

Overall, political risk is taking centre stage. BOE risk might be out of the way with the Carney decision on Monday, but UK assets including GBP still face strong headwinds, which could limit any GBP upside from the Carney rally as we move through the week. Earnings releases and a continued decline in the oil price as an Opec production cut looks less likely, may weigh on global equity sentiment for the rest of this week.

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