Pound-Euro Exchange Rate in Sharpest One Day Drop since December, Expect some Follow-Through

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- GBP/EUR interbank spot rate: 1.1766, - 1.00%

- Retail bank rates for transfers (indicative): 1.1455-1.1538

- Specialist money transfer providers (indicative: 1.1600-1.1661 >> Find out more.

Pound Sterling suffered its largest drop recorded in a single day since December against the Euro since mid-December, following early signs of tensions between the EU and UK ahead of critical trade negotiations.

The Pound-to-Euro exchange rate dropped over a hundred pips from an opening level of 1.1882 to reach 1.1767 at the time of writing, which marks a 1.14% decline. The previous decline of a comparative size was recorded on December 17, 2019 when the pair fell by 1.60%.

The critical point to note about such declines is that there is typically an element of follow-through to the move. The December decline was followed by further losses that extended until December 23. There is good chance that the slump seen today also experiences a degree of follow-through.

So what is behind the decision by investors to dump the Pound?

The overarching narrative amongst currency market commentators and analysts is that the opening salvos to the EU-UK trade negotiations are to blame: both sides set out there stalls ahead of a year of negotiations which are expected to be tense and fraught with disagreement.

Barnier told his audience that a comprehensive and far-reaching free trade deal can be achieved if the UK stays aligned to EU rules.

The UK's Prime Minister Boris Johnson has today argued alignment makes the country a rule taker and defeats the point of Brexit which was ultimately a decision taken by the British people to break free from the political and legal gravity of Brussels.

The upcoming negotiations will therefore be a game of chess that sees the UK trying to gain as much tariff-free wins as possible why rejecting the reach of Brussels' rules on state aid, the environment and tax. Brussels also wants to leverage substantial rights on fishing from the UK while keeping the UK signed up to the European Convention on Human Rights and the European Court of Justice.

However, as we told followers of Pound Sterling Live's Twitter channel, none of this is really new and shouldn't really bother the Pound:

"This sharp decline in GBP is strange. The explanation is the declines are because of Johnson & Barnier speeches, but what genuine new piece of information has actually been revealed by the EU and UK on trade in these opening salvos? None."

It is new information that tends to drive big moves in a currency, and today we have big moves but no new information.

Indeed, what was said by the EU and UK have been known for some time and are therefore 'in the price' of the Pound, hence we find that laying the blame for the declines at the door of Barnier and Johnson is somewhat problematic.

Jane Foley, FX Strategist with Rabobank, says there are a number of issues that could be at hand:

"The move lower was no doubt exacerbated by last week’s surge which followed the BoE’s January 30 decision to leave rates on hold. Month end flows have probably also played a part in the volatility."

The Pound rallied sharply towards the end of last week, thanks in part to the Bank of England's decision to keep interest rates unchanged at 0.75%, a decision that will have come as a surprise to some in the market who were expecting a rate cut.

Gains accelerated into month-end as financial market participants rebalanced portfolios, which appears to have been Sterling-positive in January.

However, even if the above factors are in some part responsible for the decline in the Pound it is important to note that there is potentially little incentive to boost the Pound above 1.19 against the Euro and 1.31 against the U.S. Dollar with looming trade talks ahead. The Pound has shown since mid-December, in the wake of the General Election, that it stutters at these rarified levels.

We expect this to remain the case going forward, however it is far too soon to call the start of a determined downtrend in Sterling.