The GBP/USD Rate Could Break Below 1.40, But Declines Excessive say S.E.B

With the GBP to USD exchange rate hitting fresh inter-year lows in mid-week trade we hear that the move lower is now looking overdone.

The British pound is at its lowest levels since 2009 and is crucially knocking on the 1.40 support zone agianst the US dollar. A break below here would certainly invite further falls. 

The latest move lower comes as the Bank of England tells the UK parliament that it will certainly consider interest rate cuts and further quantitative easing should external risks to the UK economy increase.

With momentum pitted against sterling analysts continue to favour further declines and believe that the support zone at the key 1.4078 lows will ultimately succumb.

Shaun Osborne of Scotiabank notes that a break down to 1.3500 is now potentially on the cards:

"The heavy fall in spot today leaves GBPUSD a shade above 1.4088, the low from earlier this year.

"1.40 is minor, psychological support only, and a decisive break under 1.41 risks tipping GBPUSD back towards the 1.35 area (2009 lows) in the next few months.

"We spot minor resistance intraday near 1.4125."

Latest Pound / US Dollar Exchange Rates

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* Bank rates according to latest IMTI data.

** RationalFX dealing desk quotation.

 

Brexit Risks Still Under-priced say ING

ING Bank’s Viraj Patel adds to the negative tone on sterling saying he expects the pound to be biased to the downside as price action so far is just the tip of the ‘ice-berg’:

“Of late we have been arguing that markets have yet to truly account for the cost of the UK leaving the EU, with GBP’s plight predominantly a function of the benign global risk environment and a dovish repricing of the BoE’s hiking cycle.

“The role of Brexit in steering recent GBP price action can be likened to a roller coaster warming up with some small twist and turns before an inevitable sharp drop.”

In a foreign exchange analysis note to clients ING argue only 1.5 – 2.0% (HSBC say 7% is priced in) of the risk associated with the U.K leaving the EU has been priced into the GBP/USD exchange rate suggesting further notable downside potential:

“Our short-term financial models show that even after today’s sharp move lower, only a 1.5-2.0% risk premium is priced into GBP/USD.

“Moreover, other UK asset markets are yet to be trading with any meaningful discount, while UK activity data is also likely to show signs of a temporary slowdown over the coming months.

“Hence, there are still valid reasons why the UK’s in-out referendum poses further downside risks to GBP.”

Patel notes that investors may only just be waking up to the implications of Brexit:

“The economic and political costs of a Brexit are likely to dawn on investors as we approach the June vote, and that this could lead to a risk of sudden volatility:

“As such, the pricing in of any Brexit risk premium could manifest itself swiftly and aggressively (while only fully showing up in the weeks or months leading up to the vote).”

GBP to USD Selling is Excessive Argues Sweden's Biggest Bank

We note in another report that from a technical view selling the GBP/USD below 1.41 is a tall ask owing historical context.

“We are out of line with rate spreads now, as the market approaches key psychological support in the 1.40 region. It is worth bearing in mind that 1.40-1.35, the latter being the 2009 lows, has been support since the mid-1980’s,” says Robin Wilkins at Lloyds Bank.

Be sure, many strategists will see current levels as being ripe to establish long positions on the pound, and the more this idea is adopted the stronger the barrier to further declines becomes.

"Whatever the situation, the GBP's strong reaction on Monday seems excessive. Indeed, against some currencies it may be a good time to consider fading the most recent moves," argues Richard Falkenhall at SEB Bank.

SEB argue that even if the UK were to exit the European Union the country would remain a member until a new arrangement for the transition as well as the long-term relationship is negotiated. 

SEB's top trade for 2016 was a short on GBP/USD and they will look to exit the trade sub-1.40, but importantly, they are not looking to add to the position in order to chase sterling lower.

Sterling Slips on Risk Sentiment Deterioration, Bank of England Comments

A reversal in risk sentiment yesterday resulted in further slippage for sterling – which briefly fell to its lowest level against the US dollar since March 2009, partly due to ongoing uncertainty around the EU referendum.

Similarly, against the euro, the GBP dropped below 1.28.

The moves were hastened as the Bank of England's Monetary Policy Committee struck an altogether more negative tone on the economic outlook.

It was remarked that should the UK economy deteriorate, or should the global economy deteriorate further than it already has relative to the forecast in the February 2016 Inflation Report, the Committee had the necessary tools to provide stimulus as required.

Importantly, Vlieghe provided the clearest indication of what may induce him to vote for a rate cut. He remarked that he has “little tolerance for further downside surprises”, and should they continue, “we will get relatively quickly to a point where I find it appropriate to respond to it”.