Lloyds View Downside Risks in GBP/EUR Exchange Rate Forecasts

• Pound to Euro Latest: 1.1576, 0.10% up on the previous day, high: 1.1623, low: 1.1559.
• Euro to Pound Sterling Latest: 0.8637, high: 0.8650, low: 0.8602

Foreign exchange analysts at Lloyds Bank have updated clients on their latest views concerning the outlook for the Pound to Euro exchange rate.

And it appears that fears of a substantial breakdown in the currency pair might be over-exaggerated.

But, where a few weeks ago we were reporting Lloyds saw slight upside risks to Sterling, now clients are told downside risks to the currency have grown.

"Analysts continue to expect GBP/EUR to remain within its broad range, in light of the dissipation of European political event risk and the potential knock-on impact on the region’s monetary policy, but “we feel the pair is likely to move moderately lower,” says Gajan Mahadevan, Quantitative Strategist at Lloyds Bank in London.

However, the progression of Brexit negotiations, alongside other risks, leads Lloyds to warn that the GBP to EUR pair is vulnerable to significant bouts of volatility.

This uncertainty is well reflected in analysts’ expectations, which continue to show significant divergence with some anticipating a move to 1.35 and some seeing a move down to 1.00.

But, Lloyds are maintaining a steady hand.

Elections: Pound at Risk of a Sell the Fact on big Conservative Win

Over the last month, there have been a number of major political developments that have
been important for GBP/EUR.

Emmanuel Macron convincingly beat Marine Le Pen in the French presidential election and German Chancellor Angela Merkel appears to be in a commanding position going into September’s Bundestag elections following impressive showings in recent regional elections and polls.

This has eased the pressure on the EUR, as the market has discounted the prospect of a political ‘shock’ in Europe.

“This drove the market to ‘re-price’ the risk premium associated with a European outlier event. This led GBP/EUR to fall back to the middle of its range,” says Mahadevan.

Domestically, the market’s focus is firmly fixated on the UK general election, scheduled for 8th June.

In spite of the sharp price action, particularly around PM May’s election announcement and Macron’s presidential election victory, GBP/EUR continues to trade within its 1.13 to 1.20 range.

The next test to Sterling-Euro will likely come on the results of the June 8 General Election.

“Based on historical data, GBP/EUR tends to rally following a small Conservative victory, compared to falling in the event of a large Conservative majority,” says Mahadevan.

This would imply a classic “buy the rumour, sell the fact” approach to the impending elections.

That said, we have seen Sterling fall back of late in line with the tightening of the polls.

It has been shown that the Labour party is closing the substantial deficit the Conservatives enjoy.

If this continues then the markets will act with relief on a Conservative win and buy the Pound.

European Central Bank Could Shock the Euro

Analysts meanwhile expect the Bank of England and European Central Bank to leave policy rates unchanged over the next twelve months.

The latter could disappoint those betting on a higher Euro.

But, Lloyds say the ECB could change its forward guidance regarding future policy moves as soon as June.

This would be positive for the Euro, but we believe the rally we are currently witnessing is symptomatic of the markets front-running this assumption.

The Euro is one of the best-performing major currencies amidst the fading of politically-linked risk environment and the ongoing improvement in the Eurozone’s economic data pulse.

As such, there could be disappointment and a potential decline in the Euro should the ECB fail to indicate it is looking to keep its stimulus settings in place despite the ongoing improvements in the economy.

However, any disappointments related to this will likely prove fleeting we believe.

Forecasts for the Pound v Euro Exchange Rate

Analysts forecasts for GBP/EUR continue to show significant divergence in expectations, but Lloyds are maintaining a steady profile for Sterling’s outlook.

Lloyds forecast GBP/EUR to trade around 1.16 at the end of the year.

From there, it is a flat to lower profile for the currency pair - if anything the rate hardly looks troubled and is headed for a period of stability.

The target for the end of 2018 is 1.14.

Consensus forecasts currently see the Pound around 1.16 towards the end of the year and 1.1650 by mid-2018.

The exchange rate is seen falling lower to 1.15 by the end of 2018.