Sterling reversed Tuesday’s gains after further concerns over UK/EU trade talks.

The Euro posted strong initial gains on the EU recovery plan and EUR/USD moved to 2-month highs above 1.1000. In choppy trading, the dollar regained some ground later in the session amid Hong Kong security concerns and a weaker Chinese yuan.

The dollar dipped again on Thursday amid expectations of month-end selling. After initial gains, commodity currencies dipped sharply as the US dollar recovered, but with support on dips.

Sterling reversed Tuesday’s gains after further concerns over UK/EU trade talks and fresh speculation over negative rates with GBP/EUR testing 1.1120.

On Wednesday, ECB President Lagarde stated that the mild ECB scenario is outdated with the economic contraction seen as somewhere between medium and severe. She insisted that there would be no new Euro debt crisis after the pandemic. The Euro gained some support on expectations of further bond buying and Italian bond yields declined.

The EU Commission proposed a EUR750bn fund to support the economic recovery with EUR500bn in grants and a further EUR250bn in loans. There was also a proposal for EUR1.1trn in the next long-term budget. There was a positive reaction from France and Germany as well as the EU parliament and EUR/USD initially pushed above the 1.1000 level to a 2-month peak around 1.1030.

The dollar overall was also initially on the defensive amid expectations of global recovery and an underlying dip in defensive demand. The US currency did, however, regain ground in New York, especially with a sharp correction in commodity currencies and underlying reservations over the underlying global outlook.

Sweden objected to the EU recovery fund and EUR/USD retreated back below the 1.1000 level as caution prevailed.

The Richmond Fed manufacturing index recovered to -27 for May from a record low -53 the previous month. New orders also declined at a slower pace while employment levels also declined on the day. The Fed Beige Book stated that economic activity declined in all districts in the latest period and fell sharply in most areas. Many contacts were pessimistic over the potential rate of recovery and there were further concerns over job losses.

There were some expectations that the dollar would be subjected to month-end selling and EUR/USD regained ground to trade above 1.1000 at Thursday’s European open.

The dollar moved higher in early US trading amid wider gains for the US currency and the yen also lost some ground. USD/JPY was unable to regain the 108.00 level and drifted lower later in the session, although narrow ranges prevailed with consolidation above 107.50.

New York Fed President Williams stated that May or June could be the low point for the economy and there were some signs of a slight pick-up in activity.

There were underlying concerns over the Chinese yuan trend during the day, especially with uncertainty over whether the US would impose trade sanctions on China.

There were further concerns surrounding the Hong Kong situation in Asia on Thursday as the local equity market lost ground. There were also concerns that the Chinese yuan would weaken further, although other Asian bourses posted gains and USD/JPY traded around 107.80 in early Europe.

Sterling was hampered by underlying budget deficit fears following reports that the deficit would still be 5% of GDP by 2024. After an element of optimism on Tuesday, sentiment surrounding trade talks with the EU dipped again as UK Chief Negotiator Frost testified to the House of Commons Brexit committee. Frost stated that the EU would need to change its negotiating position in order to secure agreement and he was doubtful whether a deal on fishing was achievable by the end of June, especially given difficulties in virtual meetings. EU’s Barnier stated that a 2-year transition extension was available, but the UK government maintained its end-2020 deadline.

Sterling dipped lower amid the very cautious tone and there was further speculation that the Bank of England could introduce negative interest rates. Governor Bailey stated that the bank is prepared to do more to combat coronavirus fallout using existing tools and would take a look at more radical measures while recovery risks were to the downside. The comments reinforced speculation that the bank could opt for negative interest rates which curbed UK currency support.

Overall, GBP/USD declined sharply to lows near 1.2200 before a recovery to near 1.2250 with EUR/GBP strengthening to near 0.9000 before a retreat to 0.8960. There is the potential for choppy trading over the next two days, especially with month-end positioning with EUR/GBP around 1.1200 in early Europe and GBP/USD near 1.2270.

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