Pound to Recover Against Euro, US Dollar in 2017 say Lloyds Bank

As foreign exchange markets enter a new month those with imminent international payments will be wondering whether the value of Sterling will increase having watched it tread water against the Dollar and Euro for a number of weeks now.

There is no shortage of analysts lining up to warn that further large falls in the value of the Pound are likely with the uncertainty created by Brexit being cited as a reason to expect further declines.

However, there is also a growing portion of the analyst community that believes the UK currency can increase in value from here.

Lloyds Bank are one example and have written to clients confirming they are sticking to their guns when it comes to forecasting a firmer Pound Sterling in 2017.

The bank have been of the view that Sterling faces relatively positive prospects in 2017 for some time now and have reiterated the call in their latest International Financial Outlook for February 2017.

“In our central view, we look for Sterling to appreciate against the US Dollar and the Euro this year to 1.30 and 1.21, respectively. Significant political events, including the evolution of the ‘Brexit’ negotiations, mean that an understanding of the risks to the forecasts is extremely important,” say Lloyds.

Lloyds are therefore wary of the many ‘moving parts’ in play that could blow their forecasts off course. 

“Current forecasts are made amid significant political uncertainties – including how ‘Brexit’ negotiations play out, Donald Trump’s policies and European elections. Our working assumption is for an orderly UK-EU deal, but other scenarios range from the UK staying in the EU to the UK leaving the EU with no deal. These alternate scenarios would have sharply different implications for forecasts,” say Lloyds.

The UK government has taken a step closer to activating Article 50 by the end of March to start EU withdrawal negotiations after the House of Commons overwhelmingly passed the ‘Brexit’ bill.

It now needs to pass the House of Lords unscathed, but we know there are some members of the House agitating to attach conditions.

There is also the threat of a second Scottish independence referendum being demanded by Edinburgh authorities. We saw on Monday, February 28 that Sterling is not immune to such a threat.

There is a suspicion that the Scottish nationalists will call for a referendum when Article 50 is triggered, and this could fundamentally alter the Pound’s trajectory over coming months.

Central Bank Policy Expectations

Although the Pound started the year on the back-foot, it has since posted a decent recovery, rising from a low of around 1.20 to a high of 1.27 against the Dollar earlier this month.

The improvement has occurred against a backdrop of resilient UK economic data, an associated shift in interest rate expectations that sees markets bringing forward their expectations for an interest rate rise at the Bank of England. 

Lloyds expect the Bank to ‘look through’ the spike in consumer price inflation this year and maintain the policy rate at 0.25%, although the upside risks have risen.

The March meeting for the US Federal Reserve is meanwhile ‘live’ with market expectations for a rate hike reaching 50% at the time of writing, but Lloyds believe officials will defer the next policy hike until June.

The gradual build-up in domestic inflationary pressures and uncertainties about the Trump administration’s polices provide policymakers the leeway to wait.

The European Central Bank, meanwhile, is expected to remain on a pre-set course of asset purchases this year, but policymakers will be watching inflation and political risks closely.

While deflation fears have subsided, leading to talk of ‘tapering’, President Draghi reiterated that asset purchases could be ramped up if necessary while ECB policy-maker Jens Weidmann most recently said the Bank won't end its asset purchase programme "all of a sudden."

Forecasts for the Pound against the Dollar and Euro

Pound to Euro forecasts: 1.19 by June, 1.20 by September, 1.21 by December and 1.21 in March 2018.

"The Dutch, French and German elections present clear risks to the EUR. Our central expectation is for GBP/EUR to appreciate towards its recent range highs, reaching 1.21 by Dec-17. However, given the prevailing risks, there is scope for significant bouts of volatility in the interim."

Pound to Dollar forecasts: 1.25 by June, 1.27 by September, 1.30 by December and 1.31 by March 2018.

"While we believe sterling looks undervalued at current levels, continued uncertainty surrounding the outcome of the UK’s EU exit negotiations leave the currency vulnerable to bouts of significant volatility over the coming year."