By Hans Guenther Redeker from BNP Paribas
A Financial Times survey published yesterday highlighted that FDI flows in to the UK have decline significantly since the beginning of the year.
This is consistent with our analysis of flows and net Merger and Acquisition (M&A) flows in particular, which have been extremely negative since the beginning of the year, providing a bearish picture of sterling. Furthermore, there seems to be little on the horizon to suggest that these flows are about to change. To the contrary, these negative flows are now starting to pick up once again. Indeed, following a slowdown of M&A activity during the month of June, the latest data for July and early August shows a resurgence of M&A activity with the UK.
The trend in total Net M&A activity suggests increasingly negative flows for the UK, implying sterling weakness on a trade weighted basis (see chart 2). However, unlike the beginning of the year when most of the negative flows where with the US, the latest data suggest a strong net outflow from the UK to Euroland. This change in the composition of the flows provides some supportive news for the euro. Hence, although we remain bearish on sterling across the board, this latest information regarding FDI flows supports our view that much of the anticipated sterling weakness is going to be seen against the euro in the near-term.
Over the medium term, however, we expect sterling weakness to be reflected against the dollar. Once financial market activity picks up again and portfolio flows return to more normal levels, then we would expect flows into the US to increase once again, providing support for the dollar, putting GBPUSD under renewed pressure. We now expect EURGBP to extend recent gains targeting the 0.6445 January highs following last week’s strong break higher. Any corrective pullback into the 0.6260 area will provide a buying opportunity.
In GBPUSD terms some further near-term gain are possible into the 1.4355 area and a break above here would open upside potential towards 1.4500. However, we would consider any such break higher as a selling opportunity. A break below 1.4180 will trigger a sell signal, targeting 1.3935 initially and then 1.3685 over the medium term.