Pound and dollar (Daily analysis 10.05.2018)

A surprising improvement in sentiment despite the increasing risks. The Bank of England meeting and US inflation data important for the pound and the dollar. The zloty has quickly pared recent losses, but the situation in emerging market currencies may remain tense.

The most important macro data (CET - Central European Time). Surveys of macro data are based on information from Bloomberg unless noted otherwise.

• 01:00 p.m.: The Bank of England's interest rate decision (estimates: 0.5% unchanged). Publication of the statement, minutes from current meeting and macroeconomic estimates in May,
• 01:30 p.m.: Press conference after the Bank of England meeting,
• 02:30 p.m.: CPI inflation data from the US for April (estimates: 0.3% MOM and 2.5% YOY; excluding fuels and food 0.2% MOM and 2.2% YOY).

Sudden sentiment improvement

Improvement in the market's sentiment was slightly surprising. It is logical that stock prices of mining and arms companies are rising on the trading market, but the general increase in appetite for risk is spreading much more widely. This applies to the currencies of emerging countries, even if the optimistic reports do not work.

The Turkish lira, which currently appreciated 1% against the dollar, is a good example, although yesterday's meeting with President Erdogan regarding the weakness of the local currency did not bring any concrete solutions.

Taking into account political situation in Italy, the sentiment on the market there seems to be too good. The yields of bonds maturing in 10-year are growing only slightly, even though the country is likely to be ruled by populists, i.e. the Five Stars Movement and the Northern League. Both parties announced a reduction in fiscal discipline, which is not a good sing in the case of the second most indebted EU country. Strong increases in the minimum pension, the introduction of a guaranteed income or the desire to suspend sanctions against Russia are unlikely to be appreciated in Brussels either. Italy may now be the weakest link in the Union and therefore the most vulnerable to market turbulence. The decision on the government should be taken by the end of this week.

Currently, one should not get used to increases in the emerging market currencies or the general good sentiment. The sentiment appears to remain under strong influence of geopolitical factors or capital outflow risks associated with rising expectations about future interest rates in the US. Worse economic readings in the EU and the dark clouds over Italy can also quickly cool down optimism.

Bank of England and inflation in the US

In the coming hours, the reports from the United Kingdom may be important. Today, the Bank of England will publish its interest rate decisions. The core scenario is to keep them unchanged. However, the increase is possible, but after the last macro data and statements by Mark Carney, it is much less probable than a few weeks ago.

If the increase does not occur, the market will pay attention to the votes balance. Keeping it at 7-2 (7 against and 2 for) is unlikely to help the pound. If, for example, Andy Haldane, the chief economist of BoE, voted in favour of the increase and the distribution changed to 6:3, then a strengthening of the pound would be expected. Investors will also try to assess, on the basis of the inflation projection or a press conference, whether there is a chance for an increase in August or, for example, in November.

In the case of the US inflation data, this may be one of the most important readings this month and the part regarding core inflation seems to be the most crucial one. Almost all economists surveyed by Bloomberg expect the data at the level of 2.2% year-on-year. This means that the value should not come as a surprise, but exceeding it by as much as 0.1 percentage point may result in dollar appreciation and higher yields of US Treasury bonds. Despite a negative sentiment towards the US dollar in recent hours, it seems that the reading should strengthen the US currency and slightly exceed the estimates.

Zloty clearly stronger

Today, the zloty is clearly strengthening. Better global sentiment and positive changes in other emerging market currencies (e.g. the Turkish lira) increase its valuation. However, it is possible that the market is too optimistic about current events and investors are returning too quickly to positions from which they have recently run away in panic. This may be a warning for the zloty and a signal that further strengthening will be difficult.

In the case of the influence of reports from Great Britain or the USA, it should not be dramatic in the context of the zloty. Probably only a very strong acceleration of the US core inflation (e.g. to 2.4% year-on-year, which would be equal to 9-year highs) could evoke some strong movements. However, this scenario is unlikely to come true. Therefore, the EUR/PLN pair should remain at the current levels in the coming hours, but it is still worth remembering that the general sentiment is rather fragile and its deterioration may suddenly weaken the Polish currency again.