GBP/EUR Rate Could Go as Low as 1.22 But Next Week Could Offer Relief

The GBP/EUR exchange rate is currently in the 1.26s with trend momentum firmly favouring the euro, but how much lower can it go? However, near term relief is possible for those holding out for a better exchange rate.

The downtrend in the pound to euro exchange rate remains firmly in place and our studies confirm that it would be foolish to bet against this trend.

That said, there is also the observation that the move is overdone, particularly if we consider data on the speculative markets that shows there are now as many bets placed against sterling than in the 2008 crisis!

Watch out for a rebound as any piece of positive news could trip up these speculators and trigger a cascading effect of pound-buying as short positions are forced closed.

Also be aware that this week's Brexit summit in Europe could trigger sharp swings on rumours as the meeting gets underway. Acceptance by other leaders should mean a June 2016 referendum.

Latest Pound/Euro Exchange Rates

	Live: 1.1391▼ -0.13% 12 Month Best: 1.2162
*Your Bank's Retail Rate	1.1004 - 1.1049
**Independent Specialist	1.1232 - 1.1277 Find out why this is a better rate

* Bank rates according to latest IMTI data.

** RationalFX dealing desk quotation.

 

Watching for Further Decline Medium- and Longer-Term

There is no doubt that the GBP/EUR chart has a negative look-and-feel.

The weekly time-frame presents us with a very bearish, large, head and shoulders (H&S) topping pattern at the highs, which has now also breached its neckline at around 1.3360.

From there, the exchange rate has already fallen quite far, almost reaching the minimum expected target calculated from the pattern’s height at 1.2630.

It also happens to be roughly at the level of the 200-week moving average level, which is likely to provide cast-iron support should it be reached, since it is a key moving average watched by currency speculators.

Indeed, 1.2630 is likely to see a lot of investors exit their short positions, because at this level the easy pickings of the bear run will have been had, and although the pound could very well weaken further the probabilities diminish a little below 1.2630.

MACD - a measure of momentum - is very bearish supporting the current down-trend.  

In the very short-term, a break below the current 1.2699 day lows, would probably confirm a continuation down to an eventual target at 1.2630.

Risk-off Environment Helps Euro

The pound hit a high above 1.43 back in November - about the time th FTSE 100 also peaked and began its descent.

The two are highly correlated confirming investor sentiment is behind GBP/EUR moves at present.

Negative investor sentiment tends to help the euro more than the pound for two main reasons - firstly because the euro has been used as a ‘funding currency’ by international investors due to its low borrowing rates, but the recent slow-down has led many to sell these assets and return the borrowed euro’s, which has increased demand for the currency.

The second reason is the attractiveness of euro-zone bonds, mainly German bunds, which are being bought as a safe-haven.  

As long as these conditions last, the euro will have the advantage against the pound, and currently there seems no respite.

Forecasting 1.22 in Sterling/Euro

Nevertheless there is still the time between now and then in which the pound is very vulnerable, and susceptible to more down-side rather than upside forces, therefore even though the currency pair has almost reached the end of ‘easy pickings’ for bears, it could still go even lower, with the 1.2500 level a major target on the radar if 1.2630 is surpassed.

Then roughly 1.2200 - or the 100% target - would be next level to watch on the radar.

Brexit still Casts its Shadow

The pound meanwhile has to contend with major fundamental headwinds in the form of Brexit fears, which have virtually unlimited down-side potential, since a Brexit - according to SocGenís Kit Juckes anyway - could well trigger a “currency crisis” for sterling, and a major sell-off, regardless of what might happen once the dust has settled.

Recent polls seem to have exacerbated those concerns yet further after showing a rise in support for a Brexit despite David Cameron’s achieving a preliminary outline of a deal with president of the council of EU ministers Donald Tusk, which gives the U.K more power.

As far as the Bank of England goes, they have shifted to a more dovish stance after the January meeting minutes showed the lone hawkish dissenter on the panel, Ian McCafferty, joined the other’s in a unanimous vote to leave policy on hold.

Besides the central bank is unlikely to make any kind of a move until Brexit is resolved.

Bar especially strong data, or a turnaround in Brexit polls supporting the stay vote, there are few sources of strength for the pound.

Euro Remarkably Resilient

The euro appears to be holding up remarkably well despite negative news and the dovish commentary from the ECB.

It now seems highly likely the central bank will embark on further easing at its March meeting, especially since concerns were raised around the stability of euro-zone banks, following the recent sudden sell-off in Coco bonds.

ING’s Christopher Turner, thinks the ECB "will be looking at financial markets with alarm," because, "weakness in European bank stocks and enforced de-leveraging will weigh on credit growth."

According to analysts at Barclays the ECB may place a floor on how low they take the deposit rate in order to avoid further stress on the fragile financial system:

“Deeply negative rates in a context of rising liquidity surplus can severely hurt banks’ profitability, thus raising the risk of an increase in bank lending rates.

"Not only do banks have to deal with low yields and compressed margins that affect their earnings on bond portfolios and lending activity, but further, in some euro area countries, their ability to pass the cost of ECB deposits to final clients is limited by national legislation that does not allow banks to charge negative rates on retail deposits.”

What Could the European Central Bank Do?

Indeed, this could result in the ECB using of other tools apart from the deposit rate which had been widely tipped as their favoured option.

Several analysts, notably from Abn Amro and Barclays again, have discussed the possibility of the ECB widening the scope of eligible bonds which it can purchase for its QE programme, to include perhaps, corporate bonds, or the debt of mixed part-private, part-public companies.

If the ECB does decide to extend or widen its QE programme this may well produce a stronger reaction from the markets and see the euro weaken moderately, however, if the reaction to the December meeting is anything to go by, the usual cause-and-effect relationship between currency and policy is in no way guaranteed to hold.

That there will be more easing in March is now becoming almost a certainty; take a recent note from CIBC’s Jeremy Stretch, who highlights rapidly decreasing inflation expectations in the euro-region:

“The downtrend in euro area inflation expectations, the 5y 5y forward euro inflation swap has traded new fresh lows today, at 1.40% underlines increasing presumptions of the ECB being forced to be more far more aggressive than back in December.

"Remember they failed to meet, albeit lofty, market easing expectations, however it can be argued internal dissent was harder to overcome at that stage as inflation expectations were then trading at around 1.80%.”

It may well be that the March ECB meeting will be a major landmark for GBP/EUR, especially, if the ECB gets out its bazooka and announces substantial additional accommodation.