British Pound to Struggle vs. Euro: The 5-Day GBP/EUR Exchange Rate Forecast

Above: Headlines suggest E.U. leaders have rejected Prime Minister May's proposal on breaking Brexit deadlock. Image © European Council.

- Bearish 'shooting star' pattern on charts bodes negative

- State of Brexit negotiations said to have deteriorated

- GBP/EUR nevertheless still near top of long-term range

Pound Sterling is quoted at 1.1446 against the Euro at the start of the new week having faded from a month-high at 1.1507 in the previous week; the exchange rate is however well above the month-low at 1.1278 recorded on November 01.

The trend is therefore overall a positive one for Sterling, but the currency could be in for a soft start to the new week thanks to headlines suggesting the E.U. have rejected proposals by U.K. Prime Minister seeking to break the deadlock in Brexit negotiations over the Irish backstop question.

"Theresa May’s Brexit deal crashes as E.U. 'turns off life support'" reports the Sunday Times; a headline that will surely see markets pare exposure to the U.K. currency in the near-term

"This weekend senior E.U. officials sent shockwaves through No. 10 by rejecting May’s plan, sparking fears that negotiations have broken down days before 'no-deal' preparations costing billions need to be implemented," says Caroline Wheeler, Deputy Political Editor at the Sunday Times.

Fundamentals are therefore clearly bearish; yet the technical setup underpinning Sterling is positive and if markets take the view that a deal is still likely despite the setback implied by the headlines then further gains are possible.

Our technical studies show the Pound-to-Euro exchange rate will probably continue to climb in the week ahead as the established short-term trend extends.

"One of the main advantage when looking at the markets from the perspective of technical analysis is that a narrative is not required to understand market sentiment," says Piotr Matys, an analyst at Rabobank, explaining how technical analysis poses the advantage of cutting out the confusing noises that headlines might be deliver.

We suggest those eyeing Sterling exchange rates weigh the technicals against the headlines when making judgements on the currency's outlook.  

The pair has just broken back inside the channel it once traded in for the first half of the year, this comes after it temporarily broke down during the summer, it is now properly back inside which is a mildly bullish sign for the pair.

GBP/EUR has also broken above the 50-week moving average (MA), another bullish sign for the exchange rate.

One negative signal is a bearish shooting star candlestick pattern on the weekly chart, but it is too early to say whether this is likely to lead to further weakness or not.

Normally shooting stars require confirmation from a further decline during the subsequent period so whether or not confirmation is given depends on this week's activity.

Overall, on balance, we would ideally wish to see a breakout above the 1.1510 highs for confirmation of further upside towards a target set at 1.1590. This technical confirmation is required owing to the elevated risks posed by weekend Brexit headlines.

1.1590 is targeted as it is where the R2 monthly pivot is situated and presents tough resistance to a continuation of the uptrend.

Momentum, as measured by RSI in the bottom pane, is waning but inconclusive.

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The Pound: What to Watch

The main driver of the Pound in the week ahead is likely to be Brexit news.

If it looks like a withdrawal deal is on the table the Pound will rise, and vice-versa if the opposite.

The headlines from the Sunday Times are indeed worrying: if true then it might be the case that Theresa May will have to walk away from negotiations as she simply won't be able to muster parliamentary support for a wildly unpopular deal that risks the U.K. being subjugated to E.U. law indefinitely.

Yet, we always knew these negotiations would go down to the wire and with December being the final deadline we are not surprised by these negative headlines.

Markets could be accused of becoming far too optimistic on the state of Brexit negotiations of late. The E.U. always negotiates until the very end; and we are seeing just this.

That is also possible gains on any deal may be short-lived as even if the government announces a deal it will still have to get approval from Parliament, and this could be an arduous process, presenting a risk to Sterling.

The conservative government only has a small majority and is reliant on support from the DUP and every single one of it MPs, so there is a risk that if either the DUP or Brexit rebels vote against the deal Theresa May may find she does not have the majority to push it through, and this could weigh on the Pound.

On the hard data front, one of the most significant releases in the week ahead is likely to be inflation data for October, which, according to the market consensus, is forecast to show a 0.2% rise on a month-on-month (mom) basis and 2.5% rise on a year-on-year (yoy) basis (for headline inflation) when it is released on Wednesday at 9.30 GMT.

A result in line with expectations would probably be bullish for Sterling as higher inflation puts pressure on the central bank to raise interest rates which appreciates the currency.

This is because higher interest rates tend to attract more inflows of foreign capital drawn by the promise of higher returns.

There is a chance, however, that inflation will disappoint because of the waning influence of the cheap Pound which has appreciated on Brexit hopes. Headline CPI has already fallen from a peak of 3.0% in January due to the bounce in the Pound, so more losses are possible - although if comments from the Bank of England (BOE) are anything to go by unlikely.

"In its most recent meeting, the Bank of England (BoE) noted that it does not expect inflation to fall much further, with price growth instead holding fairly steady near the 2% target," say Wells Fargo in a note to clients.

Another major release for the Pound is labour market data out on Tuesday at 9.30. Probably of most significance to Sterling is the average earnings component because of its influence on inflation. The current expectation is for a rise of 3.0% in Earnings (including bonuses) and for a rise of 3.1% in earnings excluding bonuses. A result in line with expectations could be positive for the Pound as it will reflect an even stronger rise in real earnings since the fall in inflation from its January peak.

Other results of note within the labour report are unemployment, which is forecast to remain at 3.0% and employment change which is forecast to rise by 34k.

The final major release for the Pound is retail sales on Thursday, which is forecast to show a 0.2% rebound in October, from a rather weak -0.8% previously, and a 2.8% rise yoy from 3.0% previously, when it released at 9.30 GMT.

The Euro: What to Watch

One strong driver for the Euro in the week ahead is likely to be Italian politics as the government reaches the deadline for presenting its revised budget to the European Commission on Tuesday, November 13.

Reports in Italian newspapers, however, suggest the government has only made minor tweaks to the budget and left the 2.4% deficit in place. This is likely to lead to a further stand-off between Rome and Brussels and potentially more volatility for the Euro.

The European Commision is considering imposing sanctions on Italy if it does not play ball including a fine equivalent to 0.2% of economic output, or the withholding of EU funds earmarked for programmes in the country.

Recent GDP data for the Eurozone in Q3 showed Italy lagging other core members with zero growth in the third quarter. Rather than encourage prudence, however, it has had the opposite effect with members of the Italian government now more keen to increase spending in order to inject some fiscal stimulus into the flatlining economy.

“We’re seeing the economy slowing, so all the more reason (for an expansive budget)," said League deputy Massimo Garavaglia.

On the hard data front, the Euro could also be moved by some fairly significant data releases.

Although only revisions of flash estimates - Q3 GDP out on Wednesday at 10.00 GMT and CPI for October out on Thursday (also at 10.00) could still impact on the Euro if they are revised up or down.

The low flash estimate of GDP has led to fears the ECB may not continue with its plans to reduce monetary stimulus. This has weighed on the Euro, however, if there is an upward revision to GDP it could support the Euro.

A major part of the reason for the slowdown was probably due to the rise in the cost of imported fossil fuels from Russia. However, since peaking in June and September the price of oil has fallen and this might lead to an upwards revision.

The trade balance for September is out at 10 on Thursday and is likely to show the surplus shrinking further. This is due to the price of oil which peaked in September and therefore probably eroded the surplus in that month.

The ZEW economic sentiment survey, which is an important leading economic indicator for growth, is out on Monday at 10.00.

The ZEW is compiled using responses from 350 German finance professionals.

A positive result shows the balance of answers were optimistic and vice-versa for a negative result. In October the ZEW was -19.4 as investors expressed concerns about international trade relations.

Finally, Eurozone industrial production figures for September are due to be released at 10.00 on Wednesday and forecast to show a slowdown of -0.3 after a 1.0% rise in August.

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