Pound Resilience Is Here to Stay, With or Without a BOE Rate Cut

(Bloomberg) --

Sterling traders are sounding confident on the currency’s prospects as they head into one of the most uncertain U.K. interest-rate decisions in years.

Thursday’s policy announcement from the Bank of England has tempted investors to sell the currency on speculation of easing. They have also been positioning for an advance over the coming month if the BOE resists calls for action -- or even if it signals a ‘one-and-done’ 25 basis-point reduction. The only factor that could catch them out may be if the BOE hints at further easing and sounds an alarm on the economy.

“Should the BOE cut rates this time, as we expect, some indicators in the options markets and on investor positioning suggest sterling’s retreat would likely remain relatively contained,” UniCredit SpA strategists including Roberto Mialich wrote in a note. The Italian bank sees the pound falling to between $1.2950 and $1.3000 in the event of a reduction.

Bets on a rate cut have whipsawed in recent weeks and the pound has fluctuated on dovish comments from policy makers and conflicting data about the wider health of the economy. On Wednesday money markets were pricing in an over 40% chance of a rate cut. This was lower than the 70% chance just a couple of weeks ago.

“Pricing in of the probability of rate cut in January subsided from the highs following some tentative signs in forward-looking data,” said Agne Stengeryte, fixed income strategist at BNP Paribas SA, adding that “today it is profit taking.”

Overnight pound volatility picked up to its highest level since December. The pound slipped for a fifth day on Wednesday to near $1.30 and was on track for its worst month against the dollar since July.

Yet a gauge of market positioning, one-month risk reversals, is hovering near its most bullish sentiment on the pound since October. For some analysts the big picture remains positive, and with sterling facing pressure there’s room for a shift upward.

Stuttgart-based Landesbank Baden-Wuerttemberg is both one of the most accurate pound forecasters in recent months and a notable bull. They forecast the currency strengthening nearly 12% to $1.45 at year-end.

“We think the BOE will stay on hold throughout 2020, maybe even increasing rates toward the end of the year,” senior economist Dirk Chlench said by phone, citing economic performance improving and increased political certainty.

Fade Rallies

The pound was the second-best Group-of-10 performer against the dollar in 2019, as it rallied toward the end of the year on confidence that the Conservatives would win the December election and help end the U.K.’s political stalemate.

Still, some say any further gains will be limited.

If the BOE holds rates on Thursday “we might get a little bit of a relief rally in sterling which would just provide better levels to sell against,” said Jeremy Stretch, the head of G-10 currency research at Canadian Imperial Bank of Commerce. “If we see a bounce up to the $1.3150-60 area that will be a good point to fade.”

Even if the BOE does ease policy the pound could strengthen. Toronto-Dominion Bank sees the BOE lowering rates twice in the first half of 2020, yet believe they will support U.K. growth, boosting sterling by nearly 8% to $1.40 by year-end.

“We would need to see a significant escalation of virus concerns or a clear validation that a follow-up rate cut was in the near-term pipeline for support around $1.2825 to face a meaningful challenge,” Ned Rumpeltin, European head of foreign exchange strategy at Toronto-Dominion, wrote in a client note.

--With assistance from James Hirai.

To contact the reporters on this story: Greg Ritchie in London at gritchie10@bloomberg.net;Anooja Debnath in London at adebnath@bloomberg.net

To contact the editors responsible for this story: Dana El Baltaji at delbaltaji@bloomberg.net, William Shaw, Neil Chatterjee

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