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Once again, the pound’s fortunes lie with the Bank of England (BoE).
Traders will scrutinise the central bank’s policy decision on Thursday for any signs that an interest-rate hike this year is still in the cards. A lot of bad news has already been baked into the UK currency and a “relatively hawkish hold” from the BoE could push it higher, according to Toronto-Dominion Bank strategists, including Ned Rumpeltin.
A narrow vote split between the nine-member Monetary Policy Committee, led by Governor Mark Carney, “alongside some downplay of the recent weak data and emphasis on a strong labour market and healthy wage growth” could prepare markets for a hike in August, said Rumpeltin, the European head of currency strategy at TD.
“Sterling’s fundamentals have deteriorated, but quite a bit of bad news is now in the price,” Rumpeltin wrote in a note.
“While we expect cable to remain under pressure ahead of the MPC, our base case suggests a significant chance of a short squeeze.”
UK economic data have taken a turn for the worse in recent weeks, causing traders to almost erase the chances of a rate hike on May 10, when the BoE is also scheduled to release its quarterly Inflation Report.
The pound has dropped 6% against the dollar since the post-Brexit vote peak of $1.4377 seen in mid-April and was steady around $1.3540 on Monday.
Money markets show the implied probability of a 25 basis-point interest-rate increase this week is about 10%, compared with more than 90% at the start of April.
Traders will also be keeping an eye on the ensuing Brexit battle, not only between the European Union and the UK, but also within Prime Minister Theresa May’s Conservative Party.
Talk of an extension to the transition period, which will keep the UK in the EU’s customs union while new border measures are resolved, has increased the pressure on sterling.
Bank of America Merrill Lynch analysts said that even though the pound is “vulnerable,” they forecast that it will strengthen over the medium term.
“Definitive deadlines are what matter, rather than ‘soft deadlines’ which have characterised the negotiations so far,” said Kamal Sharma, a strategist at Bank of America.
Analysts at the bank remain “alert for opportunities to scale back into pound longs based on our constructive view on the Brexit negotiations and willingness of the BoE to hike rates in 2018,” he said.
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