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Pound Sterling Always Rallies in April - but this Year will be Different Warn Analysts - PSL

APRIL 09, 2017
  • Written by Will Peters

Historically, the British Pound tends to rally in April.

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For the last 12 years without fail, GBP has rallied against the USD with an average monthly gain of 2.2%.

The currency has also done well against the Euro.

The observation has many in the analytical industry understandablyconfident that this April will be no different and that we should therefore expect the UK currency to rise.

But the reasons for this outperformance in April is yet to find any plausible theories and analyst David Bloom at HSBC says he is reluctant to rely upon it and modelling the Pound’s potential direction over coming weeks.

Indeed, Bloom rightly points out that the UK is a very different place in April 2017 than it was in previous Aprils. “The vote for Brexit was a game-changer,” says Bloom.

Bloom does not know why Sterling is favoured by April, but history alone is no reason to suggest this is a set-in-stone rule.

Oliver Harvey at Deutsche Bank says a potential reason for Sterling’s historical outperformance in April relates to dividends.

“After annual reporting in the first quarter, April is often the month when dividends fall due. With over two thirds of FTSE 100 earnings made abroad, cash must be repatriated to pay them,” says Harvey.

Harvey does warn that the divergence between high dividends payments and the declining profitability of UK-listed firms might mean this April’s payouts are limited when compared to previous instances.

The analyst notes that for years now UK corporates have been handing out cash to shareholders at the expense of reinvestment which must at some point be rectified.

As such Deutsche Bank reckon there are many years of underinvestment to catch up with and firms are tipped to hold onto cash which in turn could see less demand for Sterling on global foreign exchange markets.

Added to this, Harvey also notes an increasingly smaller proportion of dividends are being paid back in GBP.

“The share of Sterling dividends is likely to fall further as companies seek to reduce the currency exposure of payouts,” says Harvey. “In short, while the weather is unlikely to improve, sterling's strong April performance may be less of a factor than in the past.”

 

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Sell the Pound on Rallies

HSBC have made a tactical recommendation to clients that they consider selling the British Pound on any rallies in anticipation of an intensification of political risk, the structural headwind of the current account deficit and possible signs of softness in the economic cycle.

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HSBC have previously recommended that GBP-USD is to be sold at 1.2540 - very close to the 1.2450 seen at the time of writing.

“Those not already engaged in GBP may be tempted to wait for better levels to sell, somewhere in the 1.2700-1.2850 region where it last topped out,” says Bloom.

The tactical call to sell the Pound on strength contrasts to the view held at Barclays that the Pound is a buy against the Euro.

We do note the duration of the Barclays call is however shorter in duration.

Economics to Weigh Against Sterling

Looking at the fundamental reasons to engage against Sterling, HSBC eye the mid-March boost given to the currency by the Bank of England which surprised markets by hinting that the next move on interest rates would be to raise them.

One member of the Bank’s decision-making committee - Kristin Forbes - actually voted for a rise at the March meeting.

But, HSBC believe the boost given to GBP from the hawkish shift in rate expectations is vulnerable to a reversal.

“The dissenting vote of Forbes at the last MPC meeting came against a run of upside activity data surprises in January and February,” says Bloom.

Those have now petered out in March with the activity surprise index tracking sideways with leading indicator data turning softer and suggesting a slowdown in economic activity over coming months.

While the upside surprise in inflation data gave an extra boost Sterling  bulls HSBC argue this sentiment is misplaced.

“The rise in inflation is a dovish signal under current circumstances because of the squeeze it poses on real spending power. Wages growth is stuck; inflation is not,” says Bloom.

HSBC think the extra 18bp of tightening the market has added to its expectations for December 2018 are likely to reverse as the data and Bank of England rhetoric delivers a push back.

“This will be significant for GBP/USD as the currency has traded as a cyclical currency so far in 2017, tracking the daily vagaries of the interest rate differential between the UK and US. Once the political risk of an early Brexit negotiation standoff and the structural headwind from the current account deficit are added, we could have all three drivers pointing to GBP weakness,” says Bloom.

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Some Bearish Forecasts for the Pound

HSBC forecast the Pound to Dollar exchange rate to be at 1.15 by mid-2017 ahead of a fall to 1.12 by the end of September and 1.10 by year-end.

The EUR/GBP exchange rate is forecast at 0.91 by mid-2017, 0.96 by September and 1.00 by the end of 2017.

From a Pound to Euro exchange rate perspective this equates to 1.0981, 1.0416 and, well, 1.0.

These are certainly amongst the more bearish forecasts in the analyst community out there and aligns closely to the views held at bears Deutsche Bank.

It might be no wonder then that two major Sterling bears are not buying the idea that the Pound will follow historical precedent and rise this April.

At the time of writing the Pound to Euro exchange rate is quoted at 1.1705.

The Pound to Dollar exchange rate is quoted at 1.2480.

Sterling caught its first tailwind of the week against the dollar thanks to data showing the fastest growth in three months for a sector of the U.K. economy that matters most.

Services growth unexpectedly accelerated in March which for now helped to allay worries of Brexit putting a brake on the economy.

Upside for the Pound could prove limited ahead of more big ticket U.K. numbers in the days ahead on trade, due Friday, and next week when inflation and unemployment print on Tuesday and Wednesday, respectively.

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NAFEX: The Nigerian Autonomous Foreign Exchange Rate Fixing Methodology - FMDQ

APRIL 24, 2017

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1. INTRODUCTION

This document provides a summary of the methodology that FMDQ OTC Securities Exchange (“FMDQ”) applies to establish NAFEX - the Nigerian Autonomous Foreign Exchange Rate Fixing.

2. BACKGROUND FMDQ

This is an over-the-counter (“OTC”) securities exchange with a mission to empower the financial markets to be innovative and credible, in support of the Nigerian economy. This mission is achieved by providing the secondary market with a world-class market governance and development service to the benefit of market participants and in support of the objectives of the financial services regulators.

Consequently, FMDQ is committed to developing and publishing independent and transparent benchmarks which are reasonably designed to be reflective of the market at the time of the fix and promote transparency in the OTC markets. FMDQ Fixings meet the requirements of domestic regulations as well as the International Organisation of Securities Commissions (“IOSCO”) Principles for Financial Benchmarks on governance, quality of the methodology and accountability mechanisms.

NAFEX is the FMDQ benchmark rate for Foreign Exchange (“FX”) spot operations in the Investors’ & Exporters’ FX Window (hereinafter referred to as the “Window”). NAFEX is designed and generated independently and objectively and also published every business day at a specific time.

2.1. Uses of NAFEX

An FX fixing is an essential component of the Nigerian financial system. Its importance to the financial industry and other non-financial sectors arises from the impact of a country’s exchange rate on almost all sectors of the economy.

NAFEX will benefit the Nigerian economy in general and the financial industry in particular in a number of ways, including:

▪ Serving as a fixing for the settlement of FX derivatives

▪ Promoting transparency and awareness of USD/NGN rates

▪ Enabling foreign and local investors benefit from a market-driven independent reference rate

▪ Increasing forward contracts usage towards a reduction of investments in currency principals and foreign currency line utilisation

▪ Developing hedge products and derivatives, thus improving the standard of the Nigerian FX market

▪ Providing growth and income potentials for market players through the trading of hedging products ▪ Serving as a benchmark for portfolio valuations, conversions, performance measurement and audits.

2.2. Key Considerations

2.2.1. Benchmark Administrator FMDQ is the benchmark administrator for NAFEX and thus has primary responsibility for all aspects of the benchmark determination process. This process includes the development, determination, dissemination, operation and governance of NAFEX.

2.2.2. Active Market

FMDQ recognises that to enable the publication of a meaningful benchmark, a market in the currency pair represented by the benchmark must genuinely exist and that market must be active. However, the economic realities will dictate the relative meaning of what ‘active’ means, as market liquidity can vary significantly at particular times of the day. FMDQ applies the IOSCO Principles for Financial Benchmarks 7 & 8 – “Data Sufficiency” & “Hierarchy of Data Inputs” in determining thresholds for an “active market.”

2.2.3. Data Sourcing

FMDQ may use transactional data entered into on an arm’s length basis between buyers and sellers in the market, where that data is available and reflects sufficient liquidity. In a market where liquidity levels are low, the benchmark may be based predominantly or exclusively on contributed quotes.

2.2.4. Governance and Transparency

FMDQ is subject to a corporate risk framework which is based on three (3) lines of risk management:

i. Business procedures and controls are designed to promote consistency throughout the process

ii. The application of independent governance, reporting and risk management. The Board of Directors and relevant Board Committees are responsible for oversight of FMDQ Fixings, including reviewing and advising on the policies and methodologies by which FMDQ calculates, administers and publishes the Fixing.

iii. FMDQ Fixings are discussed and adopted by an Oversight Committee i.e. the Market Review Committee, consisting of members of the FMDQ Management Team who perform the required due diligence on the proprietary Fixings. Furthermore, in line with the IOSCO Principles for Financial Benchmarks, FMDQ shall publish submitted quotes received from contributing banks with the eliminated quotes identified.

2.2.5. Exercise of Expert Judgment

FMDQ may exercise discretion on the use of data in determining a Fixing. The calculation of a Fixing includes a validation process whereby, among other steps, FMDQ reviews data and fixes rates under certain pre-determined tolerance checks. When applying tolerance checks, FMDQ has the discretion (subject to internal policies and procedures) to include or reject certain data from the calculation of the Fixing.

Based on FMDQ’s experience in interpreting market data, FMDQ shall apply expert judgment when necessary with the intent of ensuring the quality and integrity of the benchmark rate. Consequently, FMDQ has put in place internal guidelines and quality control procedures that govern the application of “Expert Judgment” and are intended to provide consistency and oversight to the process.

3. FIXING DYNAMICS

3.1. Fixing Methodology - NAFEX Spot Rate NAFEX Spot rates shall be determined as detailed below and contributing banks shall be expected to submit only ‘professional spot quotes’. Where a contributing bank submits an unprofessional quote, such a quote will automatically be disqualified from the NAFEX computation. Contributing banks shall quote single rates for transaction sizes of $5,000,000.00 and above or as advised by FMDQ, at the time of the poll.

3.1.1. NAFEX is a polled rate based on the submissions of ten (10) contributing banks and calculated using a trimmed arithmetic mean. Upon receipt of quotes, the individual contributing banks’ submission is ranked in descending order. The lowest and highest two (2) quotes are eliminated from the ranked rates leaving only the middle six (6) rates. The arithmetic mean of the remaining rates are then calculated to two (2) decimal places and disseminated as the NAFEX Spot Rate.

3.1.2. NAFEX shall be published daily by 12:00noon. 3.1.3. Where FMDQ receives fewer than the required number of submissions by the time NAFEX is due for publication, the reduced submissions methodology detailed below shall apply: i. NAFEX will be published provided that two (2) or more quotes are obtained on a daily basis ii. The calculation methodology shall remain the same irrespective of the number of submissions received. 

3.13 If data remains insufficient by 12:00 noon, FMDQ shall activate the NAFEX Contingency plan as detailed below.

3.2. Contingency Plan

3.2.1. In instances where there are quotes below the documented threshold, the previous day’s NAFEX shall be maintained and published as the current NAFEX.

3.2.2. In circumstances of a force majeure event, leading to the unavailability of quotes in the market, the previous day’s NAFEX will be maintained and published as the current NAFEX.

3.2.3. Any republished rates from the previous business day shall be identified as such on the FMDQ1 eMarkets Portal.

3.2.4. After five (5) consecutive business days of republishing the previous day’s NAFEX (in this case, the NAFEX of 5 business days prior), an FMDQ Market Review Committee meeting shall be convened in a special session to devise a strategy for the appropriate determination of future NAFEX during the extreme market condition, towards preserving the continuity of the NAFEX publication.

4. PUBLICATION NAFEX

Spot Rate is available in three (3) packages – Real-time, 24-hour Delayed and Historical:

▪ Live Fix: Available at 12:00 noon daily via the FMDQ e-Markets Portal

▪ Delayed (24 hours): Published via the FMDQ website2

▪ Historical: Available via the FMDQ e-Markets Portal

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