Recession On the Cards For Both The UK And Eurozone So Which Way For Sterling Euro Rates?

The recently elected head of the ECB Mario Draghi has hinted that Europe may experience a “mild recession for the end of the year”.  The Eurozone grew by 0.2% in Q3 according to official figures, however the disparity between Germany and France on one hand (growing by 0.5% and 0.4% respectively) and Greece on the other (shrinking by 5.2%) couldn’t be more stark.  In my view the debt crisis in Europe is likely to continue to run whilst many of the smaller economies fail to grow to finance their national debt- a situation I cannot see changing in the next year for the likes of Greece.  An interest rate cut soon, despite ECB comments on price stability, also cannot be ruled out to help the PIIGS but this again highlights the problem of the “one-size fits all” Euro approach.

On the other hand UK unemployment is still on the rise, and many analysts have forecast a 50%-70% chance the UK will be back in recession by the end of 2012.  Certainly Mervyn King’s comments yesterday seem to point to some form of contraction- he stated inflation will come down from 5.2% to under 2% by the end of next year, yet they are unlikely to increase interest rates.  In other words prices are going to drop very sharply – in my mind this can only happen if oil, food and energy costs come down naturally, or if companies slash prices in an effort to stay afloat!  It seems more likely the second option in my view.

So with the Eurozone struggling, and the UK in a parlous state, it looks as though sterling euro will remain fairly rangebound between 1.14 to 1.18 in the next few months so any buy north of 1.17 and any sell around 1.15 would be my picks for when to strike immediately.  The key beneficiary in the sterling euro turmoil will likely be the USD as fears over Europe as a whole drive investors into the safety in the greenback. 

One word of caution though is to watch out for some volatile swings in and around Christmas.  Over the last couple of years this period has seen some of the biggest swings- two years ago we reached near parity!  With many traders on holiday, and a lot of companies closed down for the silly season, much thinner trading volumes can cause bigger swings on the market so be warned!

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