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Categorized | Currencies

Farmers’ payments could wilt sterling

Posted on September 23, 2016

Wads of British Pound Sterling banknotes are stacked in piles at the GSA Austria (Money Service Austria) company's headquarters in Vienna July 22, 2013. REUTERS/Leonhard Foeger/File Photo©Reuters

To all ‘have-a-go’ traders out there: now is not the time to dabble in sterling — against the euro, at least. Because the farmers are coming to town.

At the end of every September, the exchange rate for the EU’s agricultural subsidies to the UK is set. These amount to a serious chunk of cash: something like €3bn every year.

    And the usual script for this runs as follows. Whichever bank has to guarantee an enormous exchange of euros into sterling at a benchmark rate determined at a known point in time tries to hedge in advance. So its traders try to stock up on sterling in the preceding days, creating some reasonably reliable seasonal patterns. Not every year, but usually. But traders at other banks, aware that the transaction is coming, join in, trying to get ahead of the ‘fix’ bank — because, let the history books show, that’s how trading used to work.

    It often got messy, with each side trying to fool the other into making a move. A market for grown-ups only.

    This year, however, may be different. Ever since benchmark rates became the centre of regulatory scrutiny, the willingness of any trader — involved in the deal or not — to even look like they might be ‘front running’ a big bank trade has been extinguished.

    Over the summer, some HSBC currencies traders were presented with US criminal charges over alleged front running. That has focused minds. If one man’s hedging is now another’s front running, why take the chance of looking like you might be up to no good?

    But even with fewer trades happening, it is still worth keeping out of the way. Markets are very quiet. Volatility is very low. Some hedging or speculative flows might be enough to give sterling some nudges higher. We’ll miss all this bunfight when the UK finally leaves the EU.

    If sterling does pick up, it will probably be a mistake to take it as a signal that the pound’s post-referendum clobbering is over. Yes, it’s up against the dollar but, really, that’s because the dollar is weaker. And, yes, you can argue the pound is due a squeeze higher, as bets against it are still pretty popular. But they don’t seem to be prohibitively popular. If anything, the farmers’ payments might just end up giving bears something new to chew on.