1st March - the vulnerability of Cable
07 March 2016
TECHNICALS:
MONTHLY CHART
The market’s falling fast towards a critical long-term pivot between 1.35 and 1.40.
The market has bounced from that level – three times in the last 25 years.
But if it were to break that level?
Surely a massive top would have formed - suggesting the prior lows of roughly parity at least.
WEEKLY CHART
The breakdown has been accelerated by the completion of a huge continuation Triangle.
Surely a smaller multiple top has already completed – suggesting moves down as far at 1.35?
The bears are in charge.
FUNDAMENTALS:
The Conservative party General election victory last year brought the question of “BREXIT” into ever-sharper focus. As part of their election manifesto the Conservatives promised to re-negotiate the UK’s relationship with the EU and then hold an in/out referendum.
The negotiations now over and campaigning begun, the Pound is increasingly taking the strain of the uncertainty the referendum is causing. The EU maybe an imperfect structure and many argue it is undemocratic, some see it as an economic club that hugely benefits the German economy, but for all that it has delivered peace to a continent with a history of frequent conflict and until the last decade, growth to areas of Europe that were almost third world.
For the UK it is our largest trading partner, but the campaign to leave and thrust the UK into a completely unknown environment is led and supported by some heavy-weight political figures.
Uncertainty has destabilised Sterling and will continue to weaken it over the coming months. Until the 23rd of June the currency will likely experience increased volatility and seriously test the downside as investors take money out of the UK.
But just how low can Sterling go and what will be the reaction after the result of the referendum is known?
The all time low for Cable was hit in 1985 when it sunk as low as 1.0520 against the US Dollar, so the down side is considerable.
Whether or not it revisits that level depends on the outcome of the vote on June 23rd. While we currently see Cable sinking to 1.3615 during campaigning and whilst the In’s and Out’s are running a close race; clearly, if the Out campaigners gained a serious lead Cable could fall further.
However, the big risk is the day after the vote, when the result is known. A vote to remain in the EU would see Cable stage a strong relief rally that could see it retrace any losses all the way back to at least 1.5000 as traders and investors refocus back to the UK’s economic fundamentals which remain solid.
But what if the vote goes the other way? There would be a long period when the UK government would need to renegotiate new trade arrangements. The old commonwealth has moved on economically since the UK joined the EU in the early 1970’s so that arrangement no longer exists. To continue trading with the EU would require new terms of access which the EU would likely grant as the UK is a major trading partner, but would they be more advantageous to the UK?
In a nutshell leaving the EU would be a huge leap in the dark and the Sterling/Dollar rate could well fall below parity. Imagine what that would do to inflation, even with low oil prices a de facto devaluation of that magnitude would ramp up the cost of everything in the UK, fuel, food, manufactured goods both home produced and imported.
And then there is the matter of the UK’s yawning trade deficit!
In summary, there are many factors that conspire to see Cable weaken over the coming months and an Out vote would see it weaken a whole lot further.
Whatever the political view, from an economic view, a vote to stay in the EU would be positive for Cable.
Next story:
18th March - The poised S&P
Previous story:
4th March - the persistence of Gold