© Reuters. In this illustration taken on February 14, 2022, sterling banknotes are displayed on top of US dollar banknotes. REUTERS/Dado Ruvic/Illustration/File Photo
by Sekhat Chatterjee
LONDON (Reuters) – In volatile currency markets, one deal can easily stand out: selling the pound.
As the world’s fifth-largest economy grapples with the headwinds of slowing growth and soaring inflation, the British currency has become the vehicle of choice to express negative sentiment. Inflation hit a 40-year high of 9% in April, more than four times the Bank of England’s 2% target, official data on Wednesday showed, while Britain’s worst cost-of-living crisis in three decades will not subside before the end of this year, according to A Reuters poll.
Although the Bank of England was the first major central bank to raise interest rates in December, its projected future path is now far less than some of its global peers, including the Federal Reserve.
While the problems in the UK economy are broadly similar to those facing other policymakers, a number of unique factors are also weighing on the pound.
One is the potential for a messy trade spat with the European Union if Britain threatens to push through legislation to undo parts of a post-Brexit Northern Ireland trade deal.
Any protracted trade war could further widen the current account deficit and subsequently weaken the currency. Then there’s the increase in the tax burden, which comes after massive temporary relief for struggling sectors during the pandemic and hitting workers and employers already struggling with rising energy bills, intensifying economic slowdown. “The possibility of a recession in the UK is almost certain as the economy faces too many headwinds,” said Wouter Sturkenboom, chief investment strategist at EMEA and UK. Northern Trust (Nasdaq ? Asset Management. Money markets are now pricing in just 120 basis points of cumulative rate hikes by the end of the year, while the Fed is close to two percentage points. Even a bank, a more cautious central European government is expected to raise rates in the It was down 108 basis points during the period.
Jane Foley, head of foreign exchange strategy at Rabobank, said markets had tempered expectations for a rate hike in the U.K. in recent weeks as recession risks rose. Respondents to the Reuters poll put a 35 percent chance of a recession within a year.
Kaspar Hense, senior portfolio manager at Bluebay Asset Management in London, said he lacks currencies in his portfolio.
“The pound’s outlook is the weakest of all the major currencies, as central banks’ reluctance to raise rates aggressively means it has the lowest inflation-adjusted yields among its rivals,” he declared.
Growth expectations and consumer confidence in Britain have plummeted amid soaring inflation, a protracted conflict and concerns over the impact of the prolonged COVID-19 lockdown on growth in China, Britain’s third-biggest trading partner, as the war in Ukraine exacerbates price pressures.
The Citibank index, which measures the relative performance of economic data relative to expectations, has underperformed the U.K. compared to the rest of Europe or the U.S., suggesting growing economic headwinds ahead.
turn to worst
This suggests that any rate hike cycle in the UK will be short-lived. Using the spread between three-year and one-year market rates, HSBC strategists forecast rates to peak in June 2023 at 2.5% before cutting them.
“As the real income squeeze continues and the outlook for consumers deteriorates sharply, it will be difficult for the Bank of England to offer anything close to the market-fixed level of forward rates,” HSBC said.
HSBC now expects the pound to end the year at $1.20, down 8% from its previous forecast of $1.30.
Sterling traded at $1.24 on Wednesday, down nearly 8% so far this year and not far from its May 2020 low of $1.21 touched again last week.
Sterling quickly turned into the headlines about the risk of stagflation facing the global economy.
In early December, hedge funds were still short the dollar and bullish on the pound. Six months later, it completely backfired, becoming the biggest sterling short bet in 2.5 years. The outlook remains bleak. Sterling’s three-month risk reversal, which measures the bearish-to-buy ratio, was at a one-month high, while price volatility was expected to remain near a two-year high.