Sterling is "Pounding above its Weight" - The Exchange Rate Analysts Who Believe GBP Must Come Down Again

London background

British Pound's luck is likely to run out warn a number of analysts who refuse to be carried away by the hype of January's rally, meanwhile UK businesses are forecasting a stronger Sterling in 2018.

Buying the Pound is one of the market's favourite trades of 2018, this week alone Sterling has:

- Risen against the US Dollar by 3.87%
- Risen against the Euro by 0.82%
- Risen against the Australian Dollar by 0.83% and
- Risen against the Canadian Dollar by 2.35%

However, had I written this same article last week we would have seen the Pound had:

- Risen against the US Dollar by 5%
- Risen against the Euro by 2%
- Risen against the Australian Dollar by 2% and
- Risen against the Canadian Dollar by 3%

So we are certainly seeing sentiment wane to some degree and we note the Pound has certainly struggled into month-end.

Should this come as a surprise though?  

Despite the Pound getting the year off to a strong we must take stock and remind readers that there are in fact, a number of analysts who eager to point out that Sterling might be getting too expensive, too fast.

Analyst Valentin Marinov of Crédit Agricole believes Sterling's luck must surely run out as the currency is now "Pounding above its weight".

Marinov's view is that Sterling's advance comes largely on the back of the woes being experienced by other currencies:

"While the improvement in the broader GBP-sentiment is undeniable, we suspect that the mounting investor bearishness on USD also contributed to the sharp rally in cable in recent weeks. Investors further remain bearish on JPY and are seemingly turning more cautious on EUR, all of which helped GBP rebound against the two funding currencies."

Crédit Agricole advise that caution is warranted with regards to expecting more of the same for Sterling as benefiting from the woes of others is unlikely to be a sustainable source of support.

Others agree, with the team at Scandanavian bank Handelsbanken believing reality will dawn when the nitty-gritty of impending trade negotiations get underway.

"The Pound has strengthened further over the past few weeks, partly related to Dollar weakening but also to Brexit-related glimmers of hope offered by EU politicians. Despite politicians trying to smooth things over, we believe the reality is still that the UK will be offered less than what it wants and that turbulence from negotiations will weaken the Pound ahead," says a client briefing from Handelsbanken.

The suggestions come as the EU have agreed the stance they are to adopt ahead of the next round of Brexit negotiations with the EU laying down a rigid set of demands for the UK to adhere to in order to secure a two year transitional deal. There are concerns that these demands might be too draconian for some pro-Brexit lawmakers to accept and this could help explain some of Sterling's recent weakness.

Get up to 5% more foreign exchange by using a specialist provider to get closer to the real market rate and avoid the gaping spreads charged by your bank when providing currency. Learn more here.

Markets now Merely 'Less Bearish' on the Pound as they Once Were

A common argument explaining Sterling's rally is gains in the Pound are largely a result of traders exiting long-held bets against the Pound.

We have reported that the books held at the big currency dealers are showing their clients are no overall positioned against the Pound - i.e. betting against the currency. Rather they are actually starting to enter positions that profit on an rise in value of the currency. Basically, traders are no longer net 'short' on Sterling and are turning net 'long'.

This switch in sentiment means that for the first time since the EU referendum the Pound is no longer the favoured 'sell' across all types of investor and speculator classes. By merely closing out bets against the Pound they are causing demand for the Pound and Marinov and others believes that the trader community is therefore not necessarily giving Sterling the thumbs-up.

Anything But Pound Strength

And then there is no shortage of analysts who argue Sterling's gains are something of an illusion as the currency is actually largely profiting on the troubles of others; particularly those besetting the US Dollar.

"The Pound has been grabbing more of the headlines in recent days on account of some GBP specific gains. However, the move higher in GBP/USD is still largely a Dollar depreciation story rather than a GBP positive story," says Derek Halpenny at MUFG in London.

As such, the Pound is liable to run into trouble the second sentiment in other currencies switches into positive. And, again, when Brexit negotiations start and the spotlight is turned back on Sterling, the currency will find itself exposed.

"The British Pound’s recent rally may have run its course. Much of the optimism stemmed from positive Brexit commentaries rolling back hard Brexit fears towards securing a trade deal. The reality ahead is that hurdles will return once UK and EU start negotiations to finalise the Brexit deal this year. It is still too early to count the chickens before they hatch," warns Philip Wee, FX Strategist with DBS Group Research.

Clearly analysts are scratching their heads over the recent bout of Pound strength and we find it amusing that many find it hard to to recognise the Pound's advance as being something reflective of its inherent strength.

Businesses Predicting a Stronger Pound

This refusal to note GBP strength is however characteristic of what we suspect is a post-referendum bias regarding Sterling by a good portion of the analyst community. After all, the community got it wrong on many counts when it comes to forecasting the economic and financial consequences of Brexit.

This is reflected by another interesting survey conducted by East & Partners that queried businesses as to their own forecasts for Sterling in 2018.

The findings were resolutely more optimistic with East & Partners reporting:

"The confidence depicted by UK businesses in their growth and trade outlook is highlighted by the forecasted strengthening of the GBP by June 2018. Average increases of 4.9 percent across the EUR, RMB, USD, Japanese Yen and Canadian Dollar (CAD) fall within a range from 1.8 percent forecasted among SMEs against the Yen up to 7.4 percent among Micro businesses against the RMB.

"Interestingly, The UK is the only market forecasting an increase in the strength of its currency against the Yen." The sample size of the survey is large, certainly larger than the surveys of elite analysts that we often focus on. And, statistically, the 'wisdom of the crowd' tends to yield better results, so this is an interesting finding we believe.

Therefore we believe it naive to dismiss the recent gains by Sterling as having nothing to do with the Pound itself and everything to do with external factors. Pound strength is Pound strength but there is certainly the argument to be made that a period of consolidation is now looking increasingly likely.

Get up to 5% more foreign exchange by using a specialist provider to get closer to the real market rate and avoid the gaping spreads charged by your bank when providing currency. Learn more here.


Exchange Rate Calculator: into Go