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Pound-to-Euro Exchange Rate Surges Above 1.18 and hits 2020 Best

- Best exchange rate of 2020 for Euro buyers
- CBI Industrial Trends survey sees Sterling push higher
- Gains could be undone by disappointing data release on Friday

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- Spot rates at time of writing: GBP/EUR: 1.1944, -0.05% | GBP/USD: 1.2987 -0.10%

- Bank transfer rates (indicative): GBP/EUR: 1.1630-1.1710 | GBP/USD: 1.2640-1.2730

- Specialist money transfer rates (indicative): GBP/EUR 1.1770-1.1830 | GBP/USD: 1.2750-1.2870 >> More details

Pound Sterling crossed a key psychological and technical level against the Euro on Wednesday, January 22 after data showed confidence amongst UK businesses has increased substantially since the December General Election.

The Pound-to-Euro exchange rate crossed the 1.18 level following the release of January's CBI Industrial Trends report that showed their Business Optimism tracker hit +23, having been at -44 previously, in what is an indication that sentiment amongst UK's businesses has witnessed a dramatic improvement that could lay the grounds for an investment revival.

The Pound rallied as the data ultimately confirms the potential for a significant pickup in the UK economy in early 2020, which in turn suggests the Bank of England will opt to keep interest rates unchanged at their January 30 meeting.

"In the wake of a solid UK jobs report yesterday (claimants rose just 14.9k, unemployment steady at 3.8% and average hourly earnings +3.2% annualised) and a better-than-expected CBI Industrial Orders report this morning, the British pound is the day’s strongest major currency," says Matt Weller, Global Head of Market Research at GAIN Capital.

The foreign exchange market has in 2020 binned Brexit as its main concern when pricing Sterling and opted instead to focus on Bank of England interest rates expectations. The Pound has struggled for much of January after a number of Bank of England policy makers stepped up to the podium to warn they were ready to cut rates on January 30 should economic data prove to be persistently weak. However, the stronger data of the past two days suggest expectations for a rate cut were perhaps overdone.

"The market’s short-term focus has shifted to next week’s Bank of England meeting. So far this week, the market-implied odds an interest rate cut by the BoE have fallen from near 70% to closer to 50%, explaining Sterling's big rally against its major rivals," says Weller.

Looking specifically at the Pound-Euro exchange rate, Weller notes Sterling has pushed above the tight 1.1655-1.1820 consolidation range, and has risen to test its highest levels of the year to date near 1.1848.

Consolidation in Sterling-Euro fades

From a technical perspective, Weller says there’s potential for more Sterling upside towards 1.19 or even 1.20480.

However, Weller warns that such an outcome would ultimately depend on Friday’s PMI report beating expectations, which would in turn convince the Bank of England that it is best to sit on current interest rate settings.

All eyes now turn to the release of the flash PMI survey on Friday, which will give a comprehensive overview of the UK's performance in the post-election period. The Bank of England's Monetary Policy Committee - who are tasked with setting interest rates - have indicated they could well base their final decision on the outcome of the survey. MPC member Gertjan Vlieghe mentioned in a speech earlier in the month that should the survey fail to show a significant improvement he would vote for a rate cut.

"Sterling popped to two-week highs as the odds of a local rate cut next week slipped below 50% from as high as 70% in recent days," says Joe Manimbo, analyst at Western Union. "Watch those Friday numbers on U.K. manufacturing and services growth which will be the next to influence the fluid rate debate."

If the data smashes expectations, expect the Pound to move sharply higher as the market moves to swiftly cut out expectations for an interest rate cut at the Bank of England on January 30.

A disappointing result will almost certainly ensure the Bank cuts interest rates and could add a heavier feel to Sterling over the short-term.

"This Friday’s UK PMI has a higher than usual level of market attention on it," says Jordan Rochester, FX strategist with Nomura. "Given it will likely move the needle on whether the BOE will cut this month or not (market now prices 66% chance) we’ve been digging into all the potential leading indicators that suggest a potential positive surprise on Friday."

Analysis by Nomura on the pricing in the options markets - that in turn give an insight into the volatility that can be expected in Sterling on the day - confirm that markets are giving the release a great deal more attention than is typically reserved for PMI data releases.

"FX volatility markets assign a 4 vol add on in GBP/USD, which is high for a UK PMI where the standard level would be just 0.3. Implied overnight is therefore ~11 vols so requires a 0.5% move in GBP/USD on Friday to breakeven," says Rochester.

In short, markets are of the opinion that the data will provide enough fireworks to trigger a move in the region of at least half a percent.

"We remain long GBP/USD with a 1.34/1.36 call spread (5 March expiry) with lot resting on Fridays PMI and next week’s BOE to set that mini trend higher in motion," says Rochester.

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