GBP/EUR Forecast: Intesa Sanpaolo Looking for GBP Above 1.17 Through 2016-2017

Intesa Sanpaolo say declines in the GBP/EUR pair beyond current levels will be limited but they also warn against expectations for a recovery.

Analysts at Italy’s Intesa Sanpaolo have announced they have lowered their forecasts for the British Pound complex.

The new projections come at a time of renewed Sterling pressures as the Bank of England commences its bond buying activities on financial markets, in line with their announcements made on August 4th.

Sterling reacted to the BoE’s stimulus package announcement, by dropping from GBP/USD 1.33 to 1.31, while the GBP/EUR rate fell from 1.2048 to 1.19.

“This is a modest correction, since Sterling remained inside the range outlined in the previous three weeks, sufficiently distant from post-referendum lows,” says Intesa Sanpaolo’s Luca Mezzomo.

Mezzomo argues that the reaction of the exchange rate is fully compatible with the downside revision of growth and with the BoE’s policy response, which probably reflects the fact that the market deems credible the strategy adopted by the central bank to counter the negative effects of Brexit.

“As a result, we have revised down only slightly the forecast levels for the Pound, and only in the near term,” says Mezzomo.

Intesa Sanpaolo’s new projections are GBP/USD 1.29-1.31-1.36 on a 1m-3m-6m horizon, from GBP/USD 1.30-1.33-1.38 previously, which against the euro translates into EUR/GBP 0.85-0.83-0.83 from EUR/GBP 0.84-0.82-0.82 previously.

In Pound to Euro exchange rate (GBP/EUR) terms, this translates into 1.1765-1.2049-1.2049 from 1.1905-1.2195-1.2195.

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Questions will however be asked of Mezzomo's forecasts in light of the current pressures as well as in light of comments made by Bank of England MPC member Ian McCafferty who warns that further Bank of England stimulus may be warranted going forward. 

That said, UK data is looking a little more robust than many had expected - if this theme were to continue over coming weeks then McCafferty's comments may ultimately be invalidated.

In such a scenario, Intesa Sanpaolo's projections will look increasingly more accurate.

However, analysts at Intesa do caution that they don’t expect a notable recovery in Sterling either, as per the forecasts.

“This depreciation should prove persistent, in the sense that the exchange rate will stay at new levels below its pre-referendum quotations for a rather long time,” says Mezzomo.

For a full account of Intesa’s forecasts, please see the table here.

CIBC, Scotiabank Warn on Further Weakness Near-Term

The breaking of 1.30 in GBP/USD appears to be the source of much market attention at present as this support level has not only propped GBP/USD up, but arguably the rest of the GBP complex.

The move spells for further decline in the Pound over the near-term argue analysts at two leading global investment banks.

"We see support at 1.2818, the early July low, but we think there is immediate risk for Cable to the low 1.27s. We see resistance at 1.30 now – a big psychological resistance point," says Shaun Osborne at Scotiabank.

Osborne notes that the GBP should fall further below 1.1614 against the Euro, this is the 2016 low printed following the EU referendum sell-off.

Jeremy Stretch at CIBC Markets believes that while trade weighted Sterling has some way to fall before re-testing early July lows, it is merely a matter of time.

"We maintain Q3 GBP/USD targets at 1.25. In the near term look for a test towards 1.2895. In terms of EUR/GBP having taken out 0.85 look for the uptrend to extend towards 0.8570/80," says Stretch.

EUR/GBP at 0.8570/80 translates to GBP/EUR at 1.1669/65.

Light Ahead for the Pound as Markets Pare Back Negativity

While pressures are undoubtedly building, it must be observed that Sterling remains above the 2016 lows it plumbed against the Euro and US Dollar, even after the historic easing action announced by the Bank of England on Thursday 4th of August.

This resilience, we find, is supportive of the targets held by Intesa Sanpaolo.

But, how do we explain the resilience?

One explanation is that markets are simply running out of momentum owing to the extremely one-side nature of Sterling markets.  

Ahead of last week’s well discounted BoE rate cut, investors extended net GBP shorts to fresh extremes.

However, latest data on the markets shows that while the negative positional skew has extended for five straight weeks, the rate of position accumulation decelerated markedly.

“This could suggest that GBP negativity may have reached extremes, albeit in view of the more aggressive BoE policy action than expected by some, there may still be scope for positions to moderately extend,” says Jeremy Stretch at CIBC Markets.

Then there is the potential that markets may have misjudged economic expectations - just how big is the impact of the Brexit vote? Is it an existential crisis for the UK economy, or is it just a shock?

Markets may have sold Sterling on anticipation of the former view, and could be realising that the actual outcome resembles the latter.

In terms of the BoE rate cut, "it is clear that the downgrading in BoE macro expectations proved to be driven in large part via the deterioration in forward looking PMI indices," says CIBC's Stretch.

The initial July flash PMI - the first big piece of data for the month following the vote - was dire.

It appears the bank continue to regard the PMI as good lead indicators of macro-economic activity.

"Yet even the bank were not willing to fully extrapolate the degree of contraction discounted in the July PMI," says Stretch.

Others agree. Analysts at Capital Economics have written to clients saying they believe recession will be avoided as PMI data released in July and June may be exaggerating weakness. 

Capital Economics list a number of reasons for being wary of reading too much into the PMI data including the observation that, "survey evidence has always been associated with well-known flaws, not least that the sample size is typically fairly small. For example, the first estimate of GDP is based on responses from 40,000 companies, whereas the Markit/CIPS surveys sample about 1,500 firms."

Subsequent GDP data and suprisingly strong confidence numbers have rowed expectations in a more constructive direction.

And the Bank's official forecasts don't envisage recession, with near-0% growth being the worst outcome.

"Like the Bank of England, we envisage broadly stagnant GDP in the second half of this year, rather than a deep recession," says Capital Economics' Ruth Gregory.