Bank of America: The Pound is Expected to See Fresh Strength Against Dollar and Euro

Forecasts for the pound dollar exchange rate have turned decidedly negative after the poor performance witnessed entering the fourth quarter.

But are the negative forecasts on GBP/USD justified or are some analysts being overly pessimistic?

Bank of America Merrill Lynch Global Research (BofA) tell us they are not as agressively positioned against sterling as is the case with others; they forsee the GBP/USD entering a sideways trading pattern.

And, with regards to the pound vs euro and Swiss Franc further gains can still be expected suggest BofA.

Rates at the time of publication

• The pound to dollar exchange rate conversion: GBP/USD is 0.22 pct lower at 1.6133.
• The pound to euro exchange rate conversion: GBP/EUR is 0.14 pct higher at 1.2715.

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A Poor Start to the Final Quarter 2014 - Why?

The British pound has started the final quarter of the year on the back-foot.

Bank of America point out that GBP has underperformed versus all of its G10 counterparts.

Nick Bate at Bank of America Merrill Lynch tells us:

The primary driver for this seems to have been the compression of UK yield spreads versus G10 following a run of softer macroeconomic data and dovish rhetoric from BoE members.

The event risk to GBP for this meeting is negligible with no announcement expected and virtually nothing priced in by UK rates markets.

But the near-term outlook for GBP has deteriorated, particularly versus USD following the break of some key technical support levels in GBP/USD and the significant move in 2yr swap yield differentials in favor of the USD.

Sideways Motion for GBP/USD?

Looking ahead, Bate reckons that the outlook all depends on guidance on interest rate rises from the various central banks.

Bate says his forecasts envisage a sideways scenario for GBP/USD and gains for GBP/EUR:

"We continue to believe the GBP/USD will remain a function of how the market perceives where the Fed and the Bank of England are in setting the foundations for a rate hike in 2015.

"However, following this recent move, we would expect cable to settle into a holding pattern, particularly given that our own proprietary indicators suggest the speculative community has liquidated a large part of its GBP longs already.

"In our view, the case for renewed outperformance of GBP versus the European currencies (EUR and CHF in particular) remains a compelling one as the policy divergences between the BoE and its European counterparts continues to widen.

"We forecast EUR/GBP to be 0.77 and GBP/USD to be 1.62 by year-end."

Turning the equation around into pound to euro, the forecast is 1.2987.