EUR/GBP slides under 0.8700, eyes key support at 0.8670

• EUR/GBP is on course for a fourth consecutive day of losses, having now broken under the 0.8700 level.
• GBP continues to outperform its mainland counterpart in what seems to be a continuation of the “vaccine trade”.

EUR/GBP looks on course for a fourth consecutive day of losses on Wednesday, having now broken convincingly to the south of the 0.8700 level. Needless to say, this means the pair has hit fresh multi-month lows. EUR/GBP is eyeing a test of a long-term downtrend that has been supporting the price action since 31 December 2020, which is likely to come into play if EUR/GBP falls into the 0.8660s. Prior to testing this downtrend, however, the pair is going to have to contend with a key support level in the form of the April 2020 low at just under 0.8670. At present, the pair trades in the 0.8680s, down about 0.2% or just under 20 pips on the day.

The vaccine trade

GBP continues to outperform its mainland counterpart in what seems to be a continuation of the “vaccine trade”; i.e. the idea that the UK’s comparatively rapid vaccine rollout will facilitate a swifter economic reopening, which will lead to UK economic outperformance versus the Eurozone later in the year. Latest reports suggest the government is hoping that all UK adults will have received both of their Covid-19 vaccines by the end of August/September. That compares to expectations in the EU that only 70% of adults will have received ever their first dose of a vaccine by the end of September. Note that a number of desks are turning a little more cautious on GBP given the speed of its rally versus the likes of the euro. ING warned on Tuesday that GBP was starting to look a little overvalued on their short-term fair valuation models and are, as such, turning a little more cautious in the currency in the coming weeks.

UK fundamentals

Meanwhile, a few other UK domestic factors might also be offering some support to sterling; UK press reports suggest that UK Finance Minister Rishi Sunak might be thinking about reducing employer national insurance contributions and reinstating the £1000 job retention bonus for every worker an employer brings back from furlough. This amounts to more fiscal stimulus and is unlikely to be seen as a negative in the eyes of GBP traders.

But Sunak is facing pressure from various UK think tanks to increase the level of fiscal stimulus more in line with that of the US; the Institute for Public Policy Research is calling for Britain to “act big” with a £190B stimulus package to avoid a vicious cycle of business bankruptcies, lay-offs and depressed demand. “The risk of doing too little far outweighs the risk of doing too much. Joe Biden has understood this. Rishi Sunak should follow his lead,” said Carsten Jung, senior economist at the Institute for Public Policy Research.

Elsewhere, UK inflation numbers collected in January were released prior to the start of European trade; headline inflation rose to 0.7% YoY from 0.6% in December, a little above expectations for it to remain unchanged at 0.6%. The YoY rate of Core inflation was also a tad higher than expected, coming in at 1.4% versus forecasts for a 1.3% reading. Meanwhile, Producer Input Prices rose at 1.3% YoY in January, much higher than expectations for a reading of 0.6%.

According to UBS Chief Economist Paul Donovan, UK inflation may well be worth watching in the future; the speed and the scale of the UK’s vaccine rollout may mean that the forced savings UK consumers have accumulated over the last year amid lockdown restrictions may well be spent earlier than in other countries whose vaccination programmes lag (assuming restrictions in the UK are eased earlier). The UK may thus serve as an indicator of how post-vaccination “reopening” might impact price growth in other countries. Donovan notes that the drop in the UK’s population seen in 2020 (as immigrants preferred to travel home to spend lockdown there) may translate into labour shortages as the service sector opens back up again, which could push up prices. Donovan caveats that spare slack in the economy (i.e. higher levels of unemployment in those who have remained in the UK) and the potential for productivity gains may mitigate these cost pressures.