GBP/USD: Trade Tensions & Fed Cut Signs Drive Dollar

The pound US dollar experienced heightened volatility on Wednesday. UK and US economic data in addition to US — Mexico trade and immigration talk progress drove trading. The pound US dollar exchange rate rallied to a high of US$1.2744 to before closing lower at US$1.2683.

What do these figures mean?
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 USDHere, £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 GBPIn 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.

The pound shot higher in early trade on Wednesday as investors reacted to better than forecast UK service sector data. Analysts had been expecting the service sector pmi to have ticked higher to 50.6 in May. Instead, activity in the service sector hit a three-month high of 51. Earlier this week manufacturing and construction sectors had reported a contraction in May, so the stronger data for the dominant service sector was well received.

Why does strong economic data boost a country’s currency?
Solid economic indicators point to a strong economy. Strong economies have strong currencies because institutions look to invest in countries where growth prospects are high. These institutions require local currency to invest in the country, thus increasing demand and pushing up the money’s worth. So, when a country or region has good economic news, the value of the currency tends to rise.

However, the lift higher in the pound didn’t last long. The reality is that while the service sector expanded, it was insufficient to make up for the contractions elsewhere, meaning that the UK appears to be stagnating in the second quarter. Brexit uncertainty and fears of a global economic downturn are weighing on businesses and paralysing decision making.

Today there is no high impacting UK economic data. Pound investors will look ahead to Friday, UK Prime Minister Theresa May’s last day in office. From there political analysts expect the Tory leadership battle to start in earnest for a six-week period.

Private Sector Job Creation Weakest in 9 Years

The dollar started the previous session on the back foot but soon leapt higher. Data released from the US was mixed. Weak ADP private payroll initially pulled the dollar lower. The data showed that the lowest number of jobs were created in a decade in the private sector. This reinforced fears over the health of the US economy. The ADP data was quickly followed by ISM non-manufacturing figures, which were stronger than what analysts had been predicting.

Following cautious comments from the Fed earlier in the week, dollar investors are watching US data carefully for signs of weakness. Sofer data could shift the Fed policy towards cutting interest rates.

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.

Attention quickly shifted the US — Mexico trade and immigration talks. Officials have suggested that a deal could be reached as soon as today to avoid tariffs being applied. The good news boosted the dollar. However, overnight the news flow changed, and Trump said that more progress was still needed. Mexico will be slapped with 5% tariffs from Monday if no deal is agreed to.

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