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What to consider as sterling recovers

A recovery in the strength of the pound against the US dollar could theoretically weigh on the FTSE 100, judging by how the currency relationship influenced the market last year. The blue chip index’s 1.8% gain so far this year is considerably lagging the domestically-focused FTSE 250 index which is up 8.1% year to date.
The FTSE 100 has a large proportion of companies which derive their earnings outside of the UK. They benefit from pound weakness as their overseas earnings are worth more when translated back into sterling. That’s why you saw the FTSE 100 rally following the Brexit vote last year, as the event served to weaken the pound.
It would therefore be fair to assume that the ongoing recovery in the strength of the pound is negative for the FTSE 100. However, it isn’t that simplistic as other factors affect company share price performance including politics and economics, as well as company-specific news flow such as contract wins and market sentiment towards certain sectors.
Inflation in the UK has hit 2.9%, substantially ahead of Bank of England chief Mark Carney’s target of 2%. If prices rise any further, he will have to write to chancellor Phillip Hammond explaining why he has allowed this to happen.
At time of writing, the pound was trading just below its one-year high at $1.3541.
Possible impediments to a further sterling recovery are Brexit talks which have stumbled following the intervention of foreign secretary Boris Johnson which has raised further questions over how unified the cabinet is on Brexit strategy.
Sterling’s future direction is also likely to be impacted by how much stock the market puts in comments from Mark Carney. His statement that interest rate hikes would be limited and done gradually caused sterling to slide 1% against the dollar on Monday 18 September before recovering ground.
Pivotal speech
Prime minister Theresa May’s speech on the UK’s vision of Brexit due on Friday 22 September in Florence is also seen as pivotal. If she delivers plans for a ‘soft Brexit’ scenario this could please the sterling bulls and help boost the pound.
A stronger currency could help more domestic facing mid cap FTSE 250 stocks although, again, it should be noted that a large number of these companies derive a lot of their revenue from overseas.
Ultimately, although you should be aware of the impact of currency movements on your investments, long-term investors should not have their decisions dictated by where the pound is trading against the dollar.
Important information:
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