POSITION: Short the UK via the etf EWU
We've yet to see positive deltas across our macro factor model for the UK and the recent lack of clarity from Bank of England Governor Mervyn King on monetary policy inspires little confidence for a near-term recovery there.
This year we've had a consistently negative bias on Western Europe, especially with respect to the UK and Switzerland due to their leverage to financial services. We shorted the UK via EWU yesterday and Switzerland via EWL on 4/07.
The decision not to cut confirms Gordon Brown and Co.'s policy of let's "wait-and-see" quantitative easing as the BOE and Treasury move forward with their March 5th plan to print money and purchase 75 Billion Pounds of government bonds and corporate paper. From a monetary standpoint we stand firm with our thesis that the BOE has done "too little too late" to manage the interest rate and now is running out of room to cut.
UK data continues to look bleak. Manufacturing dropped 6.5% in the three months through February and declined 0.9% in February M/M. Unemployment, though a lagging indicator, shows a sequential monthly uptick. PPI increased 0.1% in March M/M, or rose 2% on an annual basis, the slowest annual pace in 20 months. February's CPI reading came in at 3.2%, down from 5.2% in Q408; you can expect a sharp decline in inflation this year and next. Should consumer demand not pick up despite downward pressure on prices, the UK could be in for an even longer "wait-and-see" recession. We'll be focused on retail sales, housing prices, and mortgage applications to better understand the depth of the abyss.
As the BOE continues to issue and buy-up Treasuries and take on debt the Pound should depreciate; this will benefit exports and push down imports, which should improve the country's trade balance. Yet the Pound has been relatively resilient versus the Euro and USD and despite initial declines after the March 5th announcement, the Pound has traded higher in the last two weeks.
The lack of leadership by Brown to instill confidence in the UK's recovery continues to be a decidedly bearish signal for us, one we believe will drag recovery further out on the curve.