Pound Sterling which will be seeking a new driver now that a more hawkish Bank of England has been priced into the currency’s value.
The Pound-to-Euro exchange rate has been tipped to rise by strategists at Deutsche Bank who say the end of the Sterling down-cycle is getting closer.
The call comes as Sterling embarks on a recovery against the Euro that has seen it rise from sub-1.08 in August to above 1.14 in September.
Expectations of higher interest rates pushed Sterling higher through September but expectations for higher interest rates in the future might now have run their course and the next main driver for the Pound are how Brexit negotiations evolve.
Deutsche Bank argue there is already a close relationship between the Pound and Brexit as illustrated by the high degree of correlation between Brexit-sensitive assets such as London property prices and Sterling.
Analyst Oliver Harvey at Deutsche Bank sees Brexit risks easing following Theresa May’s Florence speech in which she introduced the idea of a two-year soft-EEA style transition period to provide a soft landing after the official deadline.
This will lead to a more bullish climate for the Pound especially versus the Euro.
“We view PM May’s Florence speech on Friday and the initial response from Michel Barnier as tentatively positive,” said Harvey, who sees the UK moving increasingly to an EEA stance similar to Norway.
As for the Bank of England, here too the outcome may be dependent on Brexit, as a more benign outcome would make it easier for the BOE to hike rates to where they ‘should’ be given inflation and unemployment.
Without the aid of an improving scenario with Europe, however, Harvey actually thinks “the bar for the MPC not to hike is high.”
Thus there is a risk of disappointment on that score.
Also in favour of the Pound appreciating is positioning which is neutral, with the CORAX (Deutsche’s proprietary trading exchange) report, “showing substantial buying” but this offset by the IMM report (a division of the Chicago mercantile Exchange) which shows substantial shorts.
There is a lot of untapped upside stored up in the Pound which is undervalued according to most valuation methods, such as the FEER which is partially based on the current account, and interest rate differentials, and this is due almost solely to political risk associated with Brexit.
Lift that off and the Pound will soar.