Pound-to-Euro Outlook: Sterling to Hold its Ground but Remains a "Plaything of Brexit Negotiations"

Euro is unlikely to post large gains versus the British Pound in 2018 says German lender Commerzbank as they set out their forecasts for coming months.

The findings of Commerzbank come amidst a flurry of currency predictions from institutional analysts as they set out their stalls for 2018.

There is certainly a more constructive tone to forecasts for the Pound at the start of 2018 when compared to the same time last year. But for Commerzbank, the same constructive stance also applies to the Euro which has enjoyed a strong start to the year and certainly remains the darling of the foreign exchange market place.

Indeed, it would be hard to bet against anything other than the Euro in this market place and Sterling remains vulnerable in this environment.

However, Sterling might hold its own and force something of a stalemate in the Pound-to-Euro exchange rate which will be a welcome reprieve for exporters and importers who have had to deal with heightened volatility over recent years.

The Bank of England is not expected to offer Sterling any material upside support as analysts at the German bank do not expect a sustained cycle of raising interest rates meaning the Pound will likely remain sensitive to developments in the Brexit negotiations.

“Since the market has not priced in a quick interest rate cycle against the backdrop of the BoE’s cautious stance, the focus in the coming weeks and months will again be on the Brexit issue,” Praefcke writes, in a recent briefing,” says Antje Praefcke, a currency analyst at Commerzbank.

“Arduous Brexit negotiations, some disappointing economic data and disagreement within the British government suggest that downside risks to the Pound still remain high and trading will remain very volatile depending on the news-flow,” the analyst adds.

The European Council voted in December to allow European negotiators to begin discussing the subjects of trade and transition early in the New Year.

This paves the way for a “transition agreement” to be struck in the early stages of 2018, which will enable the status quo to remain in place after the March 29, 2019 exit day while companies prepare for the implementation of new arrangements.

However, moving talks along to the second phase and agreeing a transition was the easier part of the process. The more difficult discussions around future trade will begin sometime around March.

"The clock is ticking as enough time also has to be left for the decided agreement to be ratified by the individual member states... Even if an initial agreement looks feasible, the process remains extremely difficult and lengthy – not least to the internal political disruptions inside the UK government,” says Praefcke.

Prime Minister Theresa May has already been defeated by members of her own party, who worked with the opposition, over a contentious amendment to the European Union Withdrawal Bill. The government later backed away from another challenge in order to avoid a similar defeat, underlining its vulnerable position.

There is a danger that as talks progress, PM May will be tested as much by her own cabinet and party members on the back benches as she will by Brussels’ negotiators.

Renewed speculation over a possible leadership challenge cannot be ruled either if events take a turn for the worse in 2018.

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But Weakness in Sterling vs. Euro to be Limited

While a runaway advance is therefore unlikely in the view of Commerzbank, the Pound-to-Euro exchange rate is unlikely to suffer a major decline, partly because the Euro might see limited strength.

“With the ECB having signalled in October that it will stick to its expansionary monetary policy in the foreseeable future and that no rate hikes are in view, the Euro is unlikely to post large gains versus the Pound,” Praefcke writes.

The same cannot be said for Sterling's chances against the Dollar however as the Federal Reserve’s continued push to raise US interest rates higher is likely to put downward pressure on the exchange rate in the first half of this year.

“Only towards year-end the Pound will gain ground again thanks to the rate hike by the BoE. Since the hiking cycle in the US will come to an end in 2019, the GBP will manage to appreciate against the USD next year,” says Praefcke.

Forecasts

Commerzbank forecast the Pound-to-Euro rate will end the 2018 year at 1.1360, which is broadly in line with its current level.

Readers can learn more about what other forecasters say 2018 has in store for the Pound-to-Euro rate here; Compilation of Major Bank Forecasts, Currency Views for 2018.

The Pound-to-Dollar rate, meanwhile, is forecast to fall to the 1.2700 level before year-end. This implies almost 8% downside from Tuesday’s level of 1.3780.

Readers can learn more about what other forecasters say 2018 has in store for the Pound-to-Dollar rate here; Compilation of Major Bank Forecasts, Currency Views for 2018.

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