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A tug-of-war between bargain hunters and pound bears is playing out.
On the one hand, increased speculation of an imminent interest-rate cut is putting pressure on sterling, and on the other, five straight days of declines to $1.2955 has tempted investors to buy the dip. Prime Minister Boris Johnson also gave bulls a boost when he said it’s likely his government would secure a trade deal with the European Union before the end of the year.
“There are still a lot of optimists in the market who take the view that reduced political uncertainty will shore up confidence, investment and economic activity in the U.K.,” said Jane Foley, head of FX strategy at Rabobank. “We would not count ourselves in this camp.”
The pound gained as much as 0.2%, erasing losses of as much as 0.3% against the dollar. It was down 0.1% at $1.2983 as of 1:14 p.m. in London.
The cost of hedging pound swings into the BOE decision remains subdued. Three-week implied volatility, a measure of expected pricing which covers the announcement, rose by 18 basis points to 6.84% yet remains near cycle lows.
We’re on a Break
The respite, however, may be temporary. The nation is set to announce inflation data Wednesday, which, if weak, could further fuel speculation that a Bank of England rate cut is imminent. It would follow data on Monday that showed the economy shrank in November, casting doubt over whether there was any growth at all in the fourth quarter.
NatWest Markets, a division of Royal Bank of Scotland Group Plc, earlier brought forward its expectations for a 25 basis-point cut to Jan. 30, from May. Credit Agricole SA pointed out that more than half the members of the central bank’s Monetary Policy Committee are ready to support a reduction if U.K. data doesn’t improve.
Policy makers Gertjan Vlieghe, Mark Carney and Silvana Tenreyro, signaled support for a cut. The next rate setter due to speak publicly is Michael Saunders on Wednesday morning in Northern Ireland. Consumer price index data for December is also due Wednesday.
“More dovish rhetoric from Saunders, as well as potential downside surprises from the U.K. CPI could add to the headwinds for the pound,” Credit Agricole strategists including Valentin Marinov said in a note. “Looking ahead, investors will also focus on the December retail sales data, looking for any evidence that political uncertainty has weighed on domestic demand.”
The pound rose 0.1% to 85.61 pence per euro, after declining as much 0.3% earlier. The yield on 10-year government bonds slipped a third day to 0.734%, while the spread against their German peers narrowed to the tightest point since 2018.
What Bloomberg Intelligence Says
“Gilts face further tightening pressure against bunds with increased chances of a BOE rate cut, while the European Central Bank looks likely to stay on hold this year amid its review of negative rates and with inflation being stable”
-- Tanvir Sandhu, Chief Global Derivatives Strategist
(Rewrites throughout, adds comment from Rabobank.)
--With assistance from Dana El Baltaji and Vassilis Karamanis.
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