Pound Dollar Exchange Rate Recovers to 1.6 Level, But UK Political Challenges Grow for GBP

The poor October for the pound dollar rate came to an abrupt end on Wednesday afternoon as US data economic data shocked markets. However, the gains may prove short-lived as another element is at play - political uncertainty in the UK.

The sterling dollar rate was seen powering back through the 1.6 level on Wednesday afternoon - those wise enough to set up a buy order with their FX provider will be pleased with their decision.

US data sent the dollar plummeting lower ensuring the pound sterling and euro took full advantage.

On Thursday the we are seeing some fresh USD weakness:

• The pound to dollar exchange rate is just 0.21 pct higher on a day-to-day basis at 1.6055. The conversion rate fell around 0.93 pct on a day-to-day basis on Tuesday showing just how volatile the market currently is.
• The pound to euro exchange rate is 0.51 pct higher at 1.2543. The conversion rate fell by 0.80 pct at one stage on Tuesday, underlying the impressive recovery at play here.

Beware: The above are spot market quotes, your bank will affix a discretionary spread to the figures. Note that an independent FX provider is able to provide up to 5% more currency in some cases by getting closer to the market and ensuring the correct market-beating orders are in place, learn more.

What Does the Outlook for GBP/USD Hold?

Markets sold the USD on news that the US economy may be cooling and in the process offered the pound, euro and other majors some relief.

NY Empire State Manufacturing Index (Sep) came in at 6.17, well below expectations for 20.50. PPI inflation data came in at 1.6 pct month-on-month in September, analysts had expected 1.8 pct.

And Retail Sales ex Autos (MoM) (Sep) came in at -0.2 pct - analysts had expected growth of 0.3 pct.

This is worrying - it appears the US economy has started to slow down. We see this as offering an interuption to the USD bull run.

The GBP/USD plummed through 1.60 just a day earlier when UK CPI printed at 1.2% versus 1.4% eyed, pushed lower by food and transportation costs.

Nevertheless, those hoping for higher GBP exchange rates will have taken heart from today's employment data - the unemployment rate has fallen to 6% while average earnings excluding bonuses rose 0.9% in August.

However, traders appear to be intent on ignoring the news and continue to maintain a negative stance on GBP:

Turning to the outlook for the pound dollar rate, if 1.60 is not held soon then further declines become possible with the mid-1.50's being the next area of support.

"Cable will now try to consolidate around the 1.5950 level as the day proceeds but unless UK data begins to show some upside surprises, the unit remains under pressure as the hope of BoE being the first G-7 central to hike rates begins to fade," says Boris Schlossberg, anaylst with BK Asset Management.

Indeed, the jobs data released on Wednesday is positive by all accounts but that traders have largely ignored it is telling - there is no interest in extending exposure to sterling at this stage.

Politics: The Wild Card for the Pound Sterling

As we saw with the Scottish referendum episode, sterling does not like political uncertainty. Unfortunately, political uncertainty is currently on the menu at the present time.

James Collins, Senior Account Executive at brokerage AFEX says:

"Traders are also wary about political risks in Britain that might influence investment flows and the pound. Recent polls have shown growing support for UKIP, and the party's leader, Nigel Farage, said he would demand an immediate referendum on EU membership as the price of supporting any coalition government.

"Last week sterling weakened after UKIP won a seat in parliament for the first time, which underlined the risks for both main UK parties.

"With eyes on the different fiscal promises made by David Cameron and Ed Miliband, investors are likely to prefer another Conservative administration. However, it's not straight-forward because a victory for the Conservatives also raises the prospect that Britain could vote to leave the EU in a referendum Cameron has promised by 2017 if re-elected."

Sell the Pound on Political Uncertainty Say Jefferies

Also plugging the political risk wildcard today are the team at investment bank Jefferies:

"We believe the risks of a constitutional crisis, around the May’15 general election, is under appreciated, with a confluence of events that could make this happen.  

"First, the UK Independence Party may be crossing from being a EU protest party to winning votes in domestic elections (having polled 2.2% and 3.1% in past two general elections and 16.5% and 27.5% in the past two EU elections, see bottom chart).  This
increases the risk of an EU exit but also of splitting the vote on the right.  

"Labour may then scrape home with an unpopular leader and a small majority, reliant on Scottish MP’s votes.  With increased Scottish devolution planned, Scottish votes on English-only laws may well be viewed as unacceptable.  

"However, any constitutional changes will only be agreed after the election by a government reliant on these very votes.  

"If the UK economy continues to be strong, these risk are much diminished but recent weaker global growth does not bode well.  Given the above, the current probability of a Feb BoE rate hike, at 40% is too high and the risks to the GBP are on the downside, in particular for GBPUSD."