Massive Twin Deficits To Impact UK Assets

By Mark O’Byrne – Re-Blogged From

Sterling is now the worst performing major currency in 2016 and gold the best.

The pound has completed its worst four day performance since Brexit and the pound remains considerably weaker versus the dollar, euro and gold since the Conservative Party conference, when Theresa May promised to trigger article 50 within six months.

Heavy losses sent sterling down by another 2 per cent yesterday to below $1.21 against the dollar, while against the euro, the pound fell below €1.10.

The pound has bounced back a little today but market participants are increasingly alarmed at the political prospect of a severe rupture between the UK and EU. All the focus has been on the real risks posed by a “Hard Brexit” but another major risk is being greatly underestimated. There is also the significant risk posed by the very poor financial situation that the UK finds itself in – with its massive twin deficits.

HSBC’s respected currency analyst David Bloom warned in a note:

“the question we have asked hundreds of investors throughout the world is do you want to buy a currency that has massive twin deficits with an unknown political direction and for that risk you can get zero rates?”

UK gilts have come under selling pressure in recent days and the yield on the 10 year is now at 1.03%.

The UK current account and budget deficits combined are around 10% of UK GDP. The UK budget shortfall was 33.8 billion pounds ($44 billion) in the first five months of the 2016-17 fiscal year. The UK budget deficit for August alone was £10.5 billion, higher than economists forecast.

Kit Juckes at Societe Generale in London warns that the demise of the UK currency could soon start impacting a broader range of assets:

“Press comment is now shifting to embracing the positive effects of a weak Pound and in due course that’ll be true but any further weakness from here might simply reflect loss of confidence and be bad for UK assets (gilts, equities, house prices, you name it…) in general.

“The market’s very short, but if Sterling weakness starts to feed weakness across assets, we will have all the conditions for a classic overshoot to start.”

Currency analysts expect sterling to fall a lot further which underlines the value of owning gold, both against local currency depreciation and also the loss of value of UK assets denominated in sterling.

HSBC is forecasting GBP—USD at 1.20 by year end and 1.10 by end 2017, taking EUR–GBP to parity. Morgan Stanley is targeting 1.24 in USD and 0.92 for EUR—GBP “relatively soon.”

Sterling dived 10% against US dollar in seconds last Friday night but the trade was later cancelled. Despite the cancelling of the allegedly “rogue trade”, a “flash crash” of 6% was still registered.

With this hugely volatile and uncertain backdrop, allied to the uncertain global geo-political and economic outlook, we are confident that gold in GBP terms will reach new nominal highs over £1,200/oz in the coming months, from £1,024/oz today (see chart above). It remains an important diversification and hedge for UK investors, savers, and pension owners.


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