British Pound / Dollar Conversion en Route to 1.25, Or is it 1.20? US GDP is Next Near-Term Event
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The Pound to Dollar exchange rate continues to defy a decline below 1.30, but a break will happen warn a number of analysts.
USD is modestly lower on Thursday 28th July, reflecting some disappointment that the FOMC statement fails to make the case for rate hikes more forcefully.
The FOMC statement does upgrade the US economic outlook but the language and tone is not enough to raise hiking expectations especially as the language on inflation expectations still remains dovish.
The post-FOMC disappointment sees US interest rate markets little changed and still pricing in a 20% chance for a September tightening and 50% for December.
Despite the Dollar falling across the board, there is one currency that holds the dubious record of underperforming the Dollar - and that is the Pound.
“The sterling has been the unique loser against the US dollar heading into the European open,” notes Ipek Ozkardeskaya at London Capital Group.
Ozkardeskaya says that even if the Fed isn’t in a position to act by September, higher US rates will hit the market sufficiently soon. “It is certainly just a matter of time before the sterling slips below the 1.30 level.”
However, a break below 1.30 will be a hard ask at this stage notes Kamal Sharma, analyst with Bank of America who notes:
“The outlook for GBP remains uncertain and sterling will be sensitive to a wider array of variables than it has been in the recent past.Our bias remains for further weakness but the failure of GBP/USD to make a sustained break below 1.30 suggests that selling GBP rallies remains the optimal strategy for now.”
Targeting 1.25
Nevertheless, that break below 1.30 must come argue ANZ Research who observe a weaker GBP being the clearest trend in markets.
“Policy easing, political uncertainty, and a twin deficit will all keep the pressure on,” say ANZ. “The mix of slowing economic growth, looser monetary policy, and a large twin deficit are negatives for sterling.”
ANZ believe that while the appointment of a new PM and cabinet has stabilised sentiment for now, the uncertain political climate is far from over.
The UK will not trigger Article 50 until next year. The long drawn-out nature of the process is bad for the economy and sterling.
ANZ targets GBP/USD at 1.25 by the end of the Q3.
Targeting 1.20
ANZ Research’s target for 1.25 is far too modest argue Capital Economics whose most recent forecast note on Sterling-Dollar says markets are under-estimating the downside in GBP/USD based on interest rate policy divergence between the US Fed and Bank of England.
Capital’s Alex Holmes notes:
“Investors are underestimating the extent to which the monetary policies of the Bank of England and the Fed are likely to diverge over the next couple of years, which is a key reason why we forecast that Sterling will fall further against the Dollar during that period.”
Capital Economics therefore think that the contrast in interest rates over coming months will be greater than investors anticipate - the immediate implication is that investors could be potentially overvaluing the Pound against the US Dollar as a result.
Holmes and his team believe that the MPC will cut the Bank Rate by 25bp at the August 4th meeting while adding £75bn to the quantitative easing programme.
However, where Capital Economics diverge from consensus is on Fed policy changes.
“We disagree that the Fed will only tighten policy very slowly. Our view is that it will hike again as soon as September and by much more next year than investors assume,” says Holmes.
This feeds into Capital Economics’ forecast for Sterling to fall further against the Dollar in 2017, reaching $1.20/£ from around $1.32/£ now.
Based on the overwhelming consensus we would suggest those watching the market with the view to buy US Dollars should note that anything above 1.30 should be considered a decent rate to buy their currency at.
Indeed, many banks and currency providers will already be offering rates below 1.30, but this is purely a discretionary price as more competitive providers will offer rates towards 1.30.
Once the break below 1.30 is confirmed the inevitable move to the lower-bound targets reflected here becomes increasingly likely.
source