In an ad hoc comment sent to clients on 18 August, we said that we would look to sell EUR/GBP should support at 0.8645 be penetrated. This support has now gone intra-day, and we think the time is ripe for further GBP gains versus EUR.
To repeat our thoughts:
The chart below (Figure 1) looks like a complicated head and shoulders type top, a negative development for EUR/GBP. The minimum downside target would be 0.82 by March/ April
The EUR continues to be under downwards pressure generally with a range of indicators (e.g. rate differentials, CDS, risk reversals, basis swap) pointing to much lower levels in EUR/USD spot and Reserve Manager buying – the main offsetting support in August – is now apparently absent
The premature resignation of ECB Board member Stark today, and a strange defence of ECB anti-inflation success yesterday, hint at significant splits within the ECB, adding to a feeling of dysfunctional policy making in Europe
The main negative for GBP – low rates/ carry – has been negated by the sharp drop in front end EUR rates recently – see Figure 2.
Tight UK fiscal policy has also been a negative for GBP, implying either slow growth or low rates or both. But this is true too now in many Euro Area countries
What’s the big risk? The UK could do QE2 soon. (For example, see: QE: Why? When? How Much? Will It Work?, Sterling Weekly 9 September .) But the ECB is already doing QE, more or less, via the SMP programme and, maybe, that is what the old guard are not happy about.
Trade: Sell EUR/GBP forward to 21 December 2011 at 0.863 (spot reference 0.862). Stop 0.884 (spot). Target 0.82 (spot)
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http://www.easyforexnews.net/wp-content/uploads/2011/09/eurgbpTrade-Ideas9Sep11.pdf
Citigroup Global Markets Ltd.