The GBP fall against the Euro continued today reversing last week’s marginal bullish reversal. The sterling verse the euro is now close to its historical low in trade related term. A reality that is not lost on the Bank of England. The MPC has indicated that a 20% decline in the GBP could equal as much as 1.5% increase in inflation depending on the issue. BoE Governor Carney in the past has suggested that exchange rates considerations must be a part of central bank’s policy setting. Should the cause be a decline in relative growth verse global competitors rather than Brexit connected fears then the BoE is more likely to act with higher policy rates. We suspect the current GBP deprecation is a blend of the two increasing the likelihood the BoE will be forced to act.
Economic data from the UK has been on the soft side causing the market to discount potential tighten. However should the domestic inflation and activity suddenly pick up the BoE will quickly shift policy stance. The market is clearly underpricing this potential scenario, yet the probably of a 4Q jump in activity has increase significantly partially due to the weaker sterling. Our bullish GBP call has been under heavy pressure but conditions are pointing to a December move in banks rate will catch the GBP bears short.
By Peter Rosenstreich