For the second year running, the currency markets defied the consensus forecast for a weaker US dollar in 2019. Analysts who forecasted a stronger pound were finally rewarded in December after Boris Johnson called, and convincingly won, a general election. Nevertheless, the uncertainty surrounding Brexit continues as the focus switches to whether the UK and EU will be able to agree on a deal that governs the trading relationship, once the transition period comes to an end.
In traditional fashion, we take this opportunity to look back at how our forecasts fared in 2019 before looking ahead to what we might expect from 2020 in next week’s edition.
The dollar index made minor gains throughout the first three quarters of 2019 despite the Fed cutting rates amid signs of a slowing US economy. The Greenback benefited from its safe-haven status amid concerns of a global slowdown and fear of a US / China trade war. As we entered the fourth quarter, the market became increasingly optimistic of a trade deal and when coupled with a perceived reduction in political risk elsewhere, the dollar duly retreated.
At the beginning of 2019, the market was relatively optimistic of an orderly Brexit at the end of Q1 and the pound rallied from $1.26 to within touching distance of $1.34 by mid-March. However, once it became clear that Theresa May was going to be unable to get her withdrawal agreement through the House of Commons, she stepped down as PM leaving Boris Johnson to take the reins in July. Sterling came under pressure, falling to a low of $1.20 in August / September amid concerns that Johnson’s hard-line approach to negotiations with the EU increased the risk of a no-deal Brexit.
Nevertheless, the pound rallied after Boris Johnson’s revised withdrawal agreement was accepted by the EU, but Johnson still faced the challenge of getting his bill through Parliament. In order to get a majority in the House of Commons, Johnson called a general election which he won convincingly in December, resulting in sterling rallying to its highest level since May 2018 before falling back to close 2019 just below $1.33.
Our GBPUSD forecast for 2019 was always contingent on the outcome of Brexit negotiations. We highlighted significant downside risk to the pound in the event of a no-deal Brexit, but also noted the upside potential if a deal could be reached. Once again, we opposed the consensus forecast for a weaker dollar and consequently our forecast was reasonably good.
|GBPUSD||Q1 2019||Q2 2019||Q3 2019||Q4 2019|
In similar fashion to GBP/USD, sterling’s fate against the euro in 2019 was largely determined by Brexit. After an initial rally from €1.10 to €1.16 between January and March (on expectations that Theresa May would get her withdrawal agreement through Parliament by 31st March) sterling fell back lower when Parliament voted against the bill.
GBPEUR slipped to an eight-and-a-half-year low in August amid concern that Britain could be heading for a no-deal Brexit under Boris Johnson’s leadership. However, the move was short-lived after Johnson unveiled his own version of the withdrawal agreement that was again ratified by the EU. Intending to get his bill through the House of Commons, Johnson then called an election in an attempt to get a majority in the House. Unsurprisingly, the pound rallied on the Conservative Party’s success taking GBPEUR briefly above €1.20 for the first time since April 2017.
On the euro side of the equation, the single currency continued to be weighed down by the ECB’s ultra-loose stance on monetary policy. Below target inflation and the threat of a recession across the bloc prompted the ECB to cut its deposit rate by a further 10 basis points in September whilst also increasing the size of its balance sheet.
Looking at the table below, GBPEUR was relatively choppy albeit within a relatively tight range. Our expectation for a move higher towards the end of the year was correct, although the rally to €1.20 exceeded our initial expectations.
|GBPEUR||Q1 2019||Q2 2019||Q3 2019||Q4 2019|
The euro endured a slow, gradual decline against the dollar throughout the first three quarters of 2019, starting at $1.15 before dipping briefly below $1.09 at the end of September. The move was primarily the result of the dollar looking least ugly. While the Fed was cutting rates, euro rates remained in negative territory before the ECB cut further in September. At the same time, both currencies were plagued by political uncertainty although, in this instance, Brexit and the outlook for the EU made the euro look most vulnerable.
In contrast, the dollar benefited from its safe-haven status amid concerns about a full-blown trade war between China and Trump. With a deal reportedly on the cards, the dollar retraced some of its gains to finish the year slightly lower with the euro trading back at $1.12.
In terms of our forecasts, we were right to oppose the consensus forecast which called for a weaker dollar and our forecast for year-end was spot on at $1.12.
|EURUSD||Q1 2019||Q2 2019||Q3 2019||Q4 2019|
In a year where the USD was considered to be the least ugly currency, CAD fared very well indeed, falling from the mid-1.36 to 1.2990 at year-end. This was primarily due to the narrowing and ultimately inverting spread between US and Canadian rates. USDCAD is particularly sensitive to interest rate differentials and with the 2-yr spread moving from 65 basis points in favour of the US to 8 basis points in favour of Canada, there was steady downward pressure on USDCAD. This surprised us as we were very much out of consensus with our call for a stronger USDCAD in 2019. We were looking for the Canadian economy to underperform the US due to its reliance on exports (global growth slowdown and trade wars were expected to weigh on the Canadian trade balance, but didn’t) and due to very highly levered household balance sheets (which was expected to push down consumer spending, but in fact, consumers continued to borrow money for discretionary spending). Regardless of these dynamics, the Canadian economy was very resilient. Interestingly, the year’s trading range was the narrowest since 1976.
|USDCAD||Q1 2019||Q2 2019||Q3 2019||Q4 2019|