Pound Ends Tough Month on a Bright Note After BOE Decision
(Bloomberg) -- The pound is ending a tumultuous month on a high note just hours before Britain exits the European Union.
Sterling is on course for its biggest weekly gain since mid-December, a day after the Bank of England kept interest rates unchanged, supporting the currency. Analysts expect it to climb more than 1% to $1.33 by the end of June, according to a Bloomberg survey.
Reinforcing the optimism, foreign investors snapped up a record 28.6 billion pounds ($37.5 billion) of U.K. government bonds in December, data released on Friday showed. Now a Brexit deal has finally been agreed, the country’s benchmark debt is heading for its best month since the June 2016 Brexit referendum, with yields falling more than 30 basis points.
The confidence follows weeks of turbulence as whipsawing bets on whether the BOE would cut rates combined with conflicting data about the health of the wider U.K. economy. Traders foresee a bright near-term future after the Conservatives’ decisive election victory in December boosted political stability and eased fears of a messy divorce from the EU at 11 p.m. London time.
U.K. government bonds returned 3.6% this month, according to the Bloomberg Barclays Sterling Gilts Index. That’s the most since a 3.7% return in August, which was itself the best month for the securities since June 2016.
With one key risk out of the way the medium-term outlook for the pound remains positive. Sentiment expressed through options is still bullish and charts suggest further gains ahead.
The pound was the best performing currency in the Group of 10 economies on the day, even after the U.K. health department confirmed two cases of the coronavirus in England. It is heading for a second week of gains, rising 0.8%.
The costs of inter-bank lending increased as companies adjusted to the BOE’s decision. Three-month sterling Libor fixing jumped 7.2 basis points to 0.76475% on Friday.
Risks on the Horizon
A drop in global risk appetite fueled by the coronavirus and difficult trade negotiations between the U.K. and the EU could yet weigh on the pound. London and Brussels have until June 30 to decide whether to prolong the Brexit transition period by one year or two years. If they don’t, Britain could still crash out of the EU at the end of 2020.
“Strategic longs in the currency remain a difficult proposition, especially as the risk of a rate cut remains firmly on the table,” Credit Agricole SA strategists including Valentin Marinov, head of G-10 foreign exchange research and strategy, wrote in a client note.
But for now the currency is building on momentum that developed after the BOE decision caught half the market wrong-footed. Volatility is falling and trades that pay out should the pound strengthen are prevailing over bets in the opposite direction, according to two-month risk reversals, a barometer of positioning and sentiment.
On a technical basis, the pound is set to from a bullish candle pattern on the weekly chart, the so-called gapping play. That’s a sign that fresh cycle highs may be due following consolidation within an upward trend. The last time this pattern developed in June 2002, the pound gained almost 9% within six weeks. In the short-term, however, technical signals are mixed. A close above $1.3173, the high on Jan. 24, would be the first sign that a short-term bottom is in place for sterling.
- NOTE: Vassilis Karamanis is an FX and rates strategist who writes for Bloomberg. The observations he makes are his own and are not intended as investment advice
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