Morning Brief – When and how

Charles Porter
Thu 8 Feb 2024

When and how

For some time now there has been good cause for a bullish sentiment on EURGBP. Or, for those who prefer to analyse the inverse of the pair, GBPEUR consistently clocking in at or around the 1.17s seems steep. If we take a look at the options market, we see that Sterling in general is carrying a poor sentiment. Most crosses, particularly EURGBP, implying that entering positions paying out based upon a fall in GBP carry a premium over those expecting a further rally in the Pound. Positioning data from futures markets is no more rosey about Sterling’s fortunes. So why when there is such abundant sentiment and pressure for Sterling to fall, particularly when measured against the Euro, are prices proving so sticky?

The fundamentals for a gradual but sustained sell off on the Pound are still there. However there are particular events to look ahead to that present risks to that outlook. Firstly, interest rate decisions such as the one we saw last week are a significant risk. Even if the BoE ends up cutting faster than some of its peers, as is expected later in the year, provided it maintains a tough rhetoric on battling inflation in the meetings ahead it could stave off a significant decline in the Pound. The other significant risk point will be the UK Spring Budget. 

Based on the Conservative Party’s languishing performance in the polls, the incumbent government is likely inclined to give away some short term fiscal freebies to win favour with the electorate. Dependent upon these policies they could be positive for the growth outlook at a time when growth rates are a key driver of FX. The Spring budget will present a risk to the GBP outlook and prices may struggle to significantly correct lower until/if this risk is successfully navigated. 

It’s clear that the risks (or potential catalysts viewed from another lens) for a move lower in GBP are fiscal and monetary policy. Part of the expected monetary policy adjustment will be the unwinding of the BoE’s balance sheet caused by decades of QE activity. There is a debate currently underway that significant losses are expected to be incurred by the Treasury who will ultimately foot the bill for the Bank’s losses when unwinding its balance sheet. If this debate becomes two pronounced both monetary tightening and fiscal expansion could be mutually hindered. This debate is one worth watching should it promote a weaker GBP sooner. 

Discussion and Analysis by Charles Porter

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