Pound-Euro Technical Outlook: The Tide Could be Turning in Favour of the Euro

- Ongoing weakness risks tipping GBP/EUR into a downtrend
- 1.1614 is seen as key trigger point
- But, Pound's fortunes ultimately rest with next week's PMI data release

Image © Pound Sterling Live

- GBP/EUR Spot rate: 1.1671, up 0.07% today

- Indicative bank rates for transfers: 1.1360-1.1440

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Pound Sterling has been under pressure against the Euro since it topped out at 1.2081 back in mid-December.

At the time of writing the Pound-to-Euro exchange rate is quoted at 1.1643, having endured a fall of 1.0% over the course of the past week and 2.80% over the course of the past month.

Short-term momentum is certainly favouring the Euro, but a relevant question to ask at this juncture is whether the weakness we have seen over recent weeks is a pullback in an uptrend that will ultimately restart, or whether the weakness represents a turn in trend that advocates for a broader run of losses.

The medium-term timeframe has seen Sterling stage an impressive multi-month run higher against the Euro, that lasted from August until December 2019: but the exchange rate's fall since mid-December takes it to a point where it could be about to invalidate that rally.

We have been observing the exchange rate's performance against a trend line that defines the August-December move, as long as it is above here we would be biased to say the Pound is in an uptrend:

But, it now appears that the Pound is breaking down through the trend line and this would have us suggest the uptrend is ending and the Euro has the opportunity to regain the initiative.

Karen Jones, Head of FX Technical Research at Commerzbank, says the Euro is in the process of overturning its 5 month downtrend against the Pound, but to confirm a base the EUR/GBP exchange rate needs to close above 0.8610, "which I suspect we will now see."

EUR/GBP at 0.8610 translates into 1.1614 in GBP/EUR terms; thus a close below here would suggest the Pound has peaked against the Euro, at least according to Jones' studies.

Such a close would "act as a trigger" to further Euro upside says Jones, with EUR/GBP targeting the 0.8782 level, which is the 200 day moving average.

This translates into a downside target for GBP/EUR at 1.1386.

Declines in Sterling come amidst a sharp rise in expectations for the Bank of England to deliver an interest rate cut within the first three months of 2020. Currencies tend to decline when rates are cut, and with market pricing for a rate rise now above 50% (up from just 5% at the start of last week) the Pound has come under pressure.

"The market sees a likelihood of slightly over 50% for a rate cut in March, but it prices in a stronger likelihood of a cut in the second half of the year. We expect a rate step before mid-2020 and therefore see further depreciation potential for Sterling as well as upside risks for our EUR/GBP forecast," says Thu Lan Nguyen, an analyst with Commerzbank.

The British Pound was trading in the red against the Euro, U.S. Dollar and other major currencies at the start of the new week, with foreign exchange analysts pointing the finger at Bank of England Monetary Policy Committee (MPC) member Gertjan Vlieghe, who over the weekend said he would vote to cut rates if economic data released later this month shows economic performance remains sluggish.

"The downside risk to GBP is building. Bar a possible rate cut, the uncertainty about the EU-UK trade deal (to be reached this year) should also limit GBP upside throughout the first half of the year," says Francesco Pesole, an FX Strategist with ING Bank in London.

With the Bank of England being in the driving seat for Sterling at the moment, much hinges on the PMI survey data due out on January 24, 27 and 28.

This is the first major set of economic data covering January, and will show whether or not the UK has received a post-election bounce. Initial signals from other survey suggest business confidence improved notably after the election resulted in a sizeable majority for Prime Minister Boris Johnson.

The win provides continuity for the UK economy while at the same time opening the door to a transitional Brexit period, which should, if all goes to plan, yield a trade deal between the EU and UK by end-2020.

The Bank of England will want to see signs that this narrative has unlocked business activity before deciding whether or not to cut interest rates; if the PMI data disappoints expect rate cut expectations to increase and further weakness in the Pound to ensue.

Strong data will however have the opposite effect, and could well restart Sterling's trend of appreciation against the Euro.

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