Currency strategists at MUFG have significantly lowered their forecasts for the Pound Sterling (GBP) against the US Dollar (USD).
In a brief to clients, the analysts have revised their end-2023 forecast to 1.25 from 1.30.
The Pound to Dollar (GBP/USD) exchange rate has come under pressure with 12-week lows below 1.2450 before a tentative recovery to 1.2475.
Following comments from Bank of England Governor Bailey, markets lowered expectations of UK interest rates.
The dollar maintained a firm overall tone amid stronger-than-expected US data with stronger-than-expected services-sector activity.
ING commented; “The dollar remains well-bid across the board as a relentless run of above-consensus US data suggests the Federal Reserve will be in no mood to relax its hawkish stance.”
Vulnerable risk conditions also hampered the Pound as well as underpinning the US currency.
With expectations of the dollar trading stronger for longer, GBP forecasts have tended to be lowered.
The latest data recorded a small upward revision to the UK PMI services sector, but the data still pointed to a contraction in the sector.
Halifax reported a decline in UK house prices of 1.9% for August after a 0.4% previously and compared with expectations of a 0.1% decline.
Prices declined 4.6% over the year, the sharpest decline since 2009, although prices are still 20% above pre-pandemic levels.
According to HSBC; “In the UK, housing activity is stalling, with new mortgage approvals stagnating around post-GFC levels and house prices falling at their fastest pace since then too.”
Capital Economics assistant economist Imogen Pattison commented; "High mortgage rates will mean demand remains very weak while previously tight supply of second-hand homes on the market is easing."
She expects prices will decline 10.5% by mid 2024.
Tomasz Wieladek, chief European economist at T. Rowe Price, is more pessimistic; “UK house prices will continue to fall at a sharp rate, with the point of greatest pressure for the market still ahead of us. A peak-to-trough decline of 15% is the most likely outcome in my view, while a 20% drop is possible in a more adverse scenario.”
In comments on Wednesday, Bank of England Governor Bailey stated that UK interest rates were now much closer to a peak.
Previously, Bailey stated that rates were closer and the shift in rhetoric was potentially significant.
He also noted the delayed impact of interest rate hikes and added; “definitely a substantial amount of transmission to come”
Although he expressed reservations over wages, there was a significant shift in UK rates pricing.
ING noted; “Markets are now for the first time starting to cast some doubts about whether the BoE will hike rates at all at the 21 September meeting,
It added; “For now, our base case is that they will go ahead with a hike but that it will be the last one, meaning markets will have to price out the additional hike still priced for later this year.”
The chances of a rate increase at the September policy meeting were cut to near 70% from over 95% last week.
Peak UK rate expectations were also cut to around 5.60% from 5.75%.
The decline in UK rates undermined the <a href="/British-Pound-GBP-currency-table.html">Pound</a>.
According to ING, the dollar was overvalued before the most recent gains and added; “This is still the case, although a further hawkish repricing in Fed rate expectations would compress the mis-valuation, and the current market conditions can keep the dollar expensive for longer.”
HSBC, however, considers that the Pound is overvalued and noted; “Comparing the REER for both currencies to a 10y level shows that GBP is similarly expensive to late 2015.”
Risk Conditions Important, Potential Dollar Win-Win Scenario
The dollar has been boosted by higher US yields at times, although the US currency has also gained net support on defensive demand when risk appetite deteriorates.
Equities have been under pressure due to unease over the global economy and concerns that the Fed will have to keep rates higher for longer.
MUFG commented; “The worsening global backdrop in circumstances of these declines in equity market only reinforce support for the dollar.”
According to the bank, the one-month rolling correction between changes in the S&P 500 index and dollar index is showing the strongest correlation since January before the US regional banking sector turmoil.”
Although a sell-off in the tech sector would undermine Wall Street, MUFG considers that the US economy is in a stronger position to weather a risk-off scenario.
According to the bank; “When you have a scenario of the dollar seeming to perform well in risk-on and risk-off conditions it only adds to the short-term appeal and demand fuelled by the positive momentum.”
Credit Agricole added; “The ‘USD smile’ has firmly reassessed itself as the key template for FX markets and the USD could continue to move closer to its extremes either because of its growing rate advantage or because of a further spike in risk sentiment.”
HSBC has lowered its end-2023 GBP/USD forecast to 1.23 from 1.30 with the end-2024 forecast at 1.18.
MUFG has lowered its end-2023 forecast to 1.25 from 1.30.