Royal Alliance Capital Currency Report

France loses AAA credit rating

Colin Nowell

Currency Analyst

Jan. 16, 2012

After hitting intra-week highs of 1.1933 against the pound, the euro pared gains later in the week as Friday evening saw ratings agency Standard and Poor’s cut the credit ratings of nine European countries.

Both France and Austria lost their coveted AAA credit ratings and were downgraded by one notch to AA+. Slovakia and Slovenia were cut to A and A+ respectively. Italy, Spain, Portugal and Cyprus had their ratings reduced by two notches. Germany, the Netherlands, Finland and Luxembourg kept their AAA ratings.

As had been widely expected, both the Bank of England (BoE) and the European Central Bank (ECB) left interest rates on hold at Thursday’s meetings. However, the euro faired the better of the two, helped by positive comments from ECB president Mario Draghi. In a press conference after the meeting, Draghi suggested that whilst the European outlook remains highly uncertain, there are tentative signs of stabilisation.

Successful government bond auctions for both Spain and Italy also improved sentiment towards the euro. The borrowing costs of Italian 12-month bonds fell to 2.735%, compared to 5.952% in a similar auction in December, whilst Spain raised nearly €10bn (double the amount aimed for).

Downbeat UK data failed to provide sterling with meaningful support, sliding against the majority of its counterparts. The BoE made no changes in interest rates and quantitative easing (QE) in Thursday’s meeting, with voting results revealed in the meeting’s minutes in two weeks’ time. However, with the Bank’s latest round of asset purchases due to expire in February, the pound could suffer if the minutes reveal a growing need to expand QE further.

An index compiled by the Royal Institute of Chartered Surveyors for the price of UK homes showed the property market continues to face strains amid a deteriorating economic outlook. Both industrial and manufacturing production showed declines during November last year, whilst UK producer price index data fell short of expectations in December.

After the previous week’s positive non-farm payrolls employment data, the US dollar continued to advance against both the pound and euro last week. The Federal Reserve’s Beige Book (a report on the current US economic situation), helped the US dollar reach three-month highs of $1.5275 versus the pound, with the report suggesting the economy continues to expand modestly. Some dollar gains were pared as retail spending rose by a smaller-than-expected 0.1% during December. However, any losses were short lived as Friday’s US import price index comfortably beat market expectations during December.

Commodity-bloc currencies such as the Australian, New Zealand and Canadian dollars regained ground versus sterling, boosted by improving commodity prices. Local economic data also offered some encouragement. The Australian dollar added over two and a half cents against sterling, helped by a jump in building approvals in November. A fall in residential building permits failed to hinder the New Zealand dollar as it reached intra-week highs of NZ$1.9200 versus sterling. An increase in the number of new homes being constructed in Canada helped the Canadian dollar advance further against the pound. A rise in Indian industrial production also helped underpin positive sentiment towards the Indian Rupee.

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