Sterling’s fall continues to support the FTSE 100 index of leading international companies. Those companies that rely more on the domestic economy such as the housebuilders, property and banks recently not so well. The fall in sterling to a 35-year low is constantly front page news, but so far remains well above the level of $1.05 it fell to in the mid 1980’s. In February 1985, at one point during the trading day traders were wondering if sterling would hit parity with the US dollar. Today’s fall from just below $1.5 to today’s level pales into insignificance compared to the fall that took place from 1980 to 1985, as the pound started the decade at $2.5.
The fall in sterling should also be taken into context against the recent rise the US dollar has had against a basket of currencies. The US dollar has gained ground against most global currencies as expectations are that the Federal Reserve will act in December.
Mark Carney’s reintroduction of quantitative easing in August resulted in yields on UK 10 year gilts falling to historic lows. The recent weakness in sterling has been accompanied by a reversal in gilt prices causing yields to rise. We have argued in the past that markets ultimately set prices not central banks, although their intervention may have some impact. The 1992 sterling ERM crisis is an obvious example, as the government looked to defend the pound to no effect. The recent selloff in the bond market would suggest the same. On the plus side the recent rise in yields may have the benefit of taking a tiny bit of pressure of pension trustees.
Markets in America fared less well on Tuesday, a combination of poor earnings from Alcoa, and Illumina, a diagnostics company, impacted sentiment across the broader market. The US dollar was also partly to blame for the setback in equity prices. Yields on US treasuries continue to trade higher along with the US dollar as capital markets continue to adjust to the expectation the Federal Reserve will act before the year end.
The earnings season may not have got off to a great start with Alcoa as the stock traded down over 10pct post the announcement. Alcoa’s business is global in nature, with exposure to large economic drivers of growth. This has meant that historically the company earnings reports have been used as a barometer in gauging the overall health on the industrial side of the global economy. On this occasion the company put down the earnings and revenue miss down more to specific reasons associated with the upcoming splitting up of the company rather than greater macro issues.
As we now hit the earnings season full tilt, analyst’s forecasts are for a small drop in year on year earnings comparisons for the quarter. If companies have guided cautiously and enough companies manage to beat expectations, there is some hope we can get the first year on year quarterly earnings growth for the first time in five quarters.