Businesses the world over have had to grapple with turbulent currency markets as a result of the political uncertainty of late. The UK’s decision to exit the European Union (EU) – and more recently Theresa May triggering Article 50 – as well as US President Donald Trump coming into office have been some of the biggest events that have caused volatility in currency markets.
Yet there is much more change to come over the next few weeks, months, and indeed years, that will trigger further volatility in the FX markets – and inactivity is as risky as change for many businesses dealing with the fallout from economic and political upheaval.
Despite such turmoil, lessons have not been learned and too few businesses are sufficiently prepared to tackle further currency market volatility, with just 20 percent of small businesses estimated to have changed their hedging strategies in relation to FX in the past year.
“Many more may be waiting for clarity in the global economy, but with rapid market fluctuations – and politics proving impossible to predict – simply sitting on your hands and not taking action is unwise,” said Paul Langley, managing director of Godi Financial (formally OSTCFX).
Godi Financial have identified five factors likely to trigger further turbulence in FX markets.
Prime Minister Theresa May made a shock announcement on Tuesday (18 April) to hold a UK general election on 8 June 2017. Her reasoning to call for the snap election is to ensure certainty, stability and strong leadership following the momentous EU referendum.
“Despite repeatedly saying she wouldn’t, Theresa May’s announcement to hold a general election will be sending Britons to the polls yet again. Sterling rallied across the board as she made the surprise announcement with the pound reaching a five-month high. Her out of the blue move is a clear example of how financial markets can be caught off guard and so preparation is crucial during such uncertain times,” said Langley.
As one of the biggest and most significant economies in the EU, France is a key player in European politics. The French election will take place in April and May of 2017, with the first round of elections beginning this Sunday (23 April). According to polls, Marine Le Pen (Front National) will go head-to-head with either Emmanual Macron (Independent) or Francois Fillon (Les Republicains).
Langley commented: “If Brexit taught us anything, it’s that polls cannot be relied upon. A new president for France, whoever it may be, will no doubt have a strong effect on the Euro, especially as some candidates want to have a vote on France’s membership of the EU, which means the Euro could continue on its lengthy dwindling trend.
“There are many moving parts and markets are starting to price in the risk of an upset. Businesses with FX exposure should not only be prepared for the outcome of the elections, but the likely currency market volatility surrounding the event. Planning is imperative.”
When US President Donald Trump ordered a missile attack against Syria, it triggered an instant reaction in the markets. Since then, however, the recent US military action is not being viewed as a signal for deeper intervention in the war that has been ongoing in Syria for the past six years, and markets have stabilised since their initial reaction.
However, Trump’s actions are an example of unpredictability and with this comes market turbulence. Also, Russia’s President Vladimir Putin has said the country will ‘tolerate’ Western criticism of Russia’s role in Syria – highlighting more uncertainty surrounding Russia-US relations.
But Langley warns that speculation is futile and it is better to plan for every scenario: “For the many UK firms trading in dollars, Trumps actions and their implications pose real questions to importers and exporters alike. I recommend adopting a robust hedging strategy now.”
Trump’s bold movements don’t stop at Syria. Recent reports show the US president is also putting pressure on North Korea. The relations between the US and North Korea are undoubtedly hostile. This is evident from the erratic regime in Pyongyang, North Korea’s capital, and Trump’s comment that the country has “gotta behave” when asked what message he had for Kim Jong-un – the North Korean leader.
With North Korea’s deputy U.N. ambassador accusing the US of turning the Korean peninsula into “the world’s biggest hotspot” and creating “a dangerous situation in which a thermonuclear war may break out at any moment”, tensions are running high.
“A rogue state that claims to have a nuclear arsenal is a major concern for any world leader. Geopolitical strains will always impact markets and such tensions aren’t going anywhere anytime soon when you consider the current political landscape.
“We are in a world where a tweet from the President of the United States could have a dramatic effect on the currency markets, where profits could be instantly cut. Every fluctuation in the market has a direct impact on the bottom line and so businesses need to be protecting themselves against this with a robust FX strategy,” Langley added.
Bank of England – interest rate changes
The Bank of England (BoE) has been forecast to increase interest rates sooner rather than later, which could see sterling strengthen. According to independent research consultancy Capital Economics, the BoE could raise interest rates during early 2018.
While interest rates aren’t the only thing influencing currency exchange rates, they can have a significant impact.
“Bearing in mind the major uncertainties over the UK economic outlook, we can’t rule out anything when it comes to interest rates. If there is a hike in rates, the pound will strengthen against the Euro. This combined with sterling’s volatility easing in response to the Brexit vote could spell a positive bout for the currency. That said – it is better for companies to hedge their bets through careful FX planning,” Langley concluded.