HSBC Predicted Pound Sterling's 2023 Rise against Euro and Dollar, But With Target Hit What Comes Next?

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Very few institutional analysts were able to predict the 2023 rally in the British Pound, with most stubbornly wedded to a seemingly perma-bear stance to the UK currency and its economy.

But strategists at HSBC went against the consensus in late 2023 and forecast a rise in the value of the currency. So, where does the team that got it right see the Pound moving over the coming weeks and months?

"In November 2022 we turned bullish on GBP-USD, when the pair was trading around 1.15, arguing a softening USD and a more resilient than expected UK economy would push Cable around 10% higher," says Dominic Bunning, Head of European FX Research at HSBC.

HSBC then upgraded its view on the Pound in January 2023, extending a forecast for Pound-Dollar to 1.30.

"That level has now been hit, albeit much earlier than we initially expected. This begs the question: what next?" queries Bunning.

In a research update to clients, Bunning says his team are not looking to fight the Pound's strength at this stage, but they are cautious that the lion's share of the move higher has potentially passed.

Above: GBP/USD forecasts by institutional analysts as per the Bloomberg poll on January 03 reveals analysts were not expecting GBP strength.

"In the near-term there is room for soft USD momentum to persist as the Fed looks set to end its rate hike cycle in July. Meanwhile, the BoE looks set to stay hawkish as inflation has been more persistent, the labour market remains tight and the positive consumer impact of falling energy prices will continue to provide a tailwind through the summer," he says.

The assessment comes after the Pound to Dollar exchange rate rallied to 1.31 in the wake of soft U.S CPI and PPI inflation releases and a better-than-expected UK GDP release.

The Pound to Euro exchange rate meanwhile slid back in the wake of the U.S. inflation reading but recaptured the 1.17 level following news the UK economy shrank 0.1% in May, which was better than the -0.3% reading the market was expecting.

HSBC reckons the Pound's momentum may start to wane in the fourth quarter, which leaves the door open to further strength over the summer.

"By no means are we turning bearish on GBP," says Bunning. "But we would be wary of chasing more powerful moves higher in the currency without a significant improvement in the domestic story."

Inflation in the UK remains elevated relative to the other major economies but should fall as lower energy prices feed into the data.

However, the Bank of England is expected by markets to raise interest rates to as high as 6.25% before calling quits.

"The lagged impact of previous and ongoing monetary policy tightening will only bite harder. Signs of softening credit growth are already emerging, as is a clearly weaker housing market," notes Bunning.

The Pound meanwhile looks richly valued, with HSBC observing Sterling's Real Effective Exchange rate is close to 10% overvalued versus a 5 year average and over 5% above its 10 year average.

"The further above equilibrium that GBP trades, the more positive the news needs to be to cause further upside," says Bunning.

"We would be wary of chasing more powerful moves higher in the currency without a significant improvement in the domestic story," he concludes.

At the start of 2022 HSBC told clients they were buyers of the Dollar against the Euro and British Pound, a strategy that would have delivered a 6% gain against the former and a 10.7% gain against the latter.

But for 2023 investors were told to flip the bet as a reversion was likely to take place and the two European currencies deliver gains against the Dollar.

"Buy EUR and GBP versus the USD," read a year-ahead strategy note that sets out a range of thematic views that might play out.

"We believe the global backdrop has shifted and valuations are now appealing enough to look to buy both currencies against the greenback, whose upward momentum has run out of steam," says Paul Mackel, Global Head of FX Research at HSBC.