Brexit and macro data as burden to pound (Afternoon analysis 03.09.2018)

Weak data from the industrial sector contributed to the problems in developing a strategy for the UK's exit from the EU today. The pound is depreciating significantly. The dollar is stable because some investors are not present in the US for Labour Day. Weak PMI data from Poland does not prevent the zloty from remaining in good condition.

EUR/USD still close to 1.16

Changes in the currency market during Monday's session were limited. This is partly a result of Labour Day in the US (including Canada) and partly a consequence of a small number of important macroeconomic publications. The most anticipated events this week are the potential imposition of 25% tariffs by the US on an additional 200 billion USD on Chinese imports and Friday's labour market report in the US. Those are the factors that will probably determine the sentiment this week.

The main currency pair, the EUR/USD, remained around 1.16 with a small fluctuation range. Although the euro or the dollar remained stable, the pound was definitely more volatile. Around 3:00 p.m., it lost almost 0.8% in relation to both currencies. Published today, the UK's industrial PMI index in August turned out to be the lowest in two years (52.8 points vs. 53.9 points consensus).

The British currency has been depreciating since the very beginning of the night. Conflicts within the country's governing party about how relations with the EU should look after leaving the country may increase the chances for a "hard" Brexit in the eyes of investors, i.e. without a mutual agreement.

Apart from the pound to zloty exchange rate (GBP/PLN lost about 1%), the Polish currency remained in good shape, taking into account the PMI index of Poland's industrial sector (51.4 points, the lowest since November 2016). If we look at the quotations from the beginning of the day, the zloty even slightly strengthened in relation to the main currencies. The EUR/PLN quotations gradually dropped from 4.30 to the 4.29 boundary.

However, these are all the levels that have been observed in previous days. Probably only the aforementioned events (US-China customs duties, labour market report) will be able to significantly influence the fluctuation range of the zloty. Currently, the weakening of the Polish currency seems to be the most probable scenario.

Tomorrow's preview

At 10:30 a.m., the IHS Markit will publish its August PMI report for the UK construction sector. In previous months, an improvement of this index has been observed. After falling below 50 pts in March (which means a slowdown in the whole sector), the index has been appreciating in the following months. In July it reached 55.8 points, which was the best result in 14 months. The median of market expectations indicates a drop to 55.0 points. For the pound at the moment, the key issue is Brexit, but a reading beyond consensus, in particular 56 points (which would be new highs from December 2015) could reduce the pressure on the sterling after weak industry data.

At 4:00 p.m., ISM will present the PMI index of the industrial sector for the US economy in August. In the case of the USA, it is much more reliable than the one produced by the IHS Markit (and published 15 minutes earlier). The market consensus shows a decrease by 0.5 percentage points to 57.6 percentage points. After a slight decrease in this index for July (down by 2.1 percentage points, although only 0.8 was expected), a further decline could confirm the slight downward trend. However, these are still relatively high levels, if we look at previous years, so such a fall should not cause a significant dollar depreciation.

On the other hand, an increase in the index to around 60 points would be in line with the argument of rapid growth in the US, which may require a relatively fast pace of monetary tightening to prevent the economy from overheating. In this context, besides the headline index, the price sub-index will also be important. After reaching its 7-year highs in May (79.5 points), it gradually dropped to 73.2 points over the next two months. The median of market expectations indicates an increase to 74 points. For the dollar, the most positive scenario would be a solid reading of the headline index around or above the consensus, combined with a higher than expected increase in the price sub-index.