On Thursday, the British pound experienced a significant decline, which Capital Daily analysts attribute to a combination of factors including the Bank of England’s (BoE) dovish monetary policy outlook, the currency’s high valuation, and extended speculative positions.
The pound’s drop of over 1% against both the US dollar and the euro marks one of its steepest daily falls against the dollar since the Trussonomics event two years ago and is the largest against the euro.
The currency’s weakness is a reaction to BoE Governor Andrew Bailey’s recent dovish statements, which suggested the central bank could become “a bit more aggressive” in cutting interest rates. This has led investors to adjust their expectations for UK monetary policy.
Despite this, the reaction in currency markets was somewhat unexpected, as the adjustments in rate expectations were not as significant, with only a slight drop in the 1- and 2-year Overnight Indexed Swap (OIS) rates in the UK compared to those in the US and the eurozone.
Analysts at Capital Daily note that the pound’s valuation has been relatively high, with sterling being the top-performing G10 currency this year. Its real effective exchange rate recently surpassed its level just before the Brexit referendum in 2016, indicating a strong valuation that may have contributed to the currency’s vulnerability.
The sudden depreciation of the pound also seems to reflect an unwinding of speculative bets, which had become overly extended. This unwinding has made the currency more susceptible to changes in market sentiment.
Looking ahead, Capital Daily forecasts a further decline in the value of the pound, especially against the euro. The analysts expect the BoE to enact deeper rate cuts than currently anticipated, and given the pound’s high valuation and ongoing speculative pressure, they predict a depreciation from the current rate of 0.84/€ to 0.88/€ by the end of next year.
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