Dollar Rallies Against Pound Thanks to Fed Comments; Eyes Now to Yellen

26.09.17
4 minute read
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The pound declined versus the dollar in the previous session, in a mix of pound weakness and dollar strength. After an early push higher by sterling to US$1.3570, the pound US dollar rate tumbled for GBP to a low of US$1.3432. This is the weakest the pound has traded versus the dollar since mid September.

| What do these figures mean? |

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| When measuring the value of a pair of currencies, one set equals 1 unit and the other shows the current equivalent. As the market moves, the amount will vary from minute to minute. For example, it could be written: 1 GBP = 1.28934 USD Here, £1 is equivalent to approximately $1.29. This specifically measures the pound’s worth against the dollar. If the US dollar amount increases in this pairing, it’s positive for the pound. Or, if you were looking at it the other way around: 1 USD = 0.77786 GBP In this example, $1 is equivalent to approximately £0.78. This measures the US dollar’s worth versus the British pound. If the sterling number gets larger, it’s good news for the dollar. |

A lack of influential UK economic data and few fresh Brexit headlines means the pound remains out of favour. Brexit negotiations started again on Monday with hopes that more progress would be made after UK Prime Minister Theresa May’s Brexit speech last week. Talks had stalled as the EU waited for more detail from the UK regarding certain factors such as the divorce bill and EU citizen rights in the UK. Any signs of meaningful progress in the talks could give the pound a boost, especially after the Chief EU negotiator is insisting that a transition deal will only be discussed in phase 2 of the negotiations. No deal would mean a cliff-edge or hard Brexit, essentially a clean break with the EU overnight. Investors feel this would be detrimental for UK businesses and thus any hints of a move in this direction generally hurt the pound. Meanwhile, should the two sides be able to progress in the decision for a transition period, then a smooth Brexit is highly likely.

Why is a smooth Brexit good for the pound?
A smoother Brexit would be a scenario in which the economic consequences of leaving the European Union are minimised. This is favourable for the pound because the less the Brexit impact on the economy, the more likely that foreign investors will remain interested in the UK. Foreign investors need sterling to invest in the country and so the more GBP is purchased, the higher the demand and, thus, an increase in the currency’s value.

The dollar receives a boost from Fed speakers

Demand for the US dollar increased as the busy week for the currency began. The first 2 of 11 Federal Reserve members to speak this week took to the stage on Monday, boosting the buck. The Federal Reserve said last week that it still intends to hike interest rates once more before the end of the year - a move which surprised many given the low level of inflation. With this in mind, many of the Fed speeches over the coming week are expected to talk in favour of further tightening.

New York Federal Reserve President, William Dudley, said that he believed the factors hurting US inflation were temporary and already fading. He continued by saying he expects US inflation, over the medium term, to reach the Fed’s 2% target level. As a result, the odds for a rate rise in December are now at 60%. As the odds increase for a rate rise, so does the value of the dollar. Investors will now watch closely to see what Fed Chair Janet Yellen will add.

Why do raised interest rates boost a currency’s value?
Interest rates are key to understanding exchange rate movements. Those who have large sums of money to invest want the highest return on their investments. Higher interest rate environments tend to offer higher yields. So, if the interest rate or at least the interest rate expectation of a country is relatively higher compared to another, then it attracts more foreign capital investment. Large corporations and investors need local currency to invest. More local currency used then boosts the demand of that currency, pushing the value higher.

While talk from the Federal Reserve will be boosting the dollar, increasing geopolitical tensions could weigh on the value of the dollar. The North Korean foreign minister claimed that Trump’s recent comments amount to a declaration of war. Each time tensions have escalated between the US and North Korea, the dollar has sold off, with investors preferring to put their money towards safe-haven currencies like the Swiss Franc.

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