Dollar Gains; Sterling Weighed by Brexit Concerns, Euro Eyes ECB

The dollar traded higher in early European trade Tuesday, with sterling nursing losses as uncertainty over the likelihood of a post-Brexit trade deal grows.

At 2:55 AM ET (0655 GMT), the Dollar Index, which tracks the greenback against a basket of six other currencies, was up 0.4% at 93.062.

Fresh negotiations between the EU and the U.K. over a potential trade deal are set to start again later Tuesday, but the U.K. lit the touchpaper over the weekend by threatening to undermine the exit agreement unless free trade terms are agreed by next month.

Talks have been at an impasse for months over two key issues – state aid and fisheries.

“The Brexit heat is back on and sterling is, in our view, unprepared. We estimate that there is no risk premium priced into the currency, while speculative positioning is neutral. Both should facilitate GBP’s downside this month as negative headline news likely gains traction,” said analysts at ING, in a research note.

U.K.-focused equity funds saw record outflows of 1.2 billion pounds ($1.58 billion) over the past three months as investors worry about a no-deal Brexit and the impact of the coronavirus pandemic, data from fund network Calastone showed on Tuesday.

By 2:55 AM ET, GBP/USD had dropped 0.1% to 1.3148, and EUR/GBP had risen 0.2% at 0.8988.

Additionally, EUR/USD dropped 0.1% to 1.1813 as investors look ahead to the European Central Bank’s policy meeting later this week amid growing expectation of a dovish message.

Most analysts don’t expect a change in the central bank’s policy stance, but are looking to the message on its inflation forecasts and whether it seems concerned by the euro’s strength – especially after the single currency posted a two-year high just above $1.20 at the beginning of the month.

“Our baseline is no new actions yet next week, but it is a close call and risks are clearly skewed towards more easing,” said analysts at Nordea, in a research note. “We also believe the ECB will go a long way to prevent a repeat of the disappointing March meeting and will bring loads of promises of action to come, if not concrete actions.”

Elsewhere, USD/JPY was largely flat at 106.24, after Japan’s economy shrank an annualised 28.1% in the second quarter, more than a preliminary reading of a 27.8% contraction.

Additionally, Yoshihide Suga, the frontrunner to succeed incumbent Shinzo Abe as prime minister in leadership elections scheduled for the following week, has hinted at snap elections.