Pound Sterling "to Push Higher" against Euro and Dollar says HSBC, But Progress Might be Slow

"GBP has been the 'king' of G10 FX so far this year, and may retain its crown beyond King Charles III’s coronation" - HSBC.

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The British Pound has been the "king" of the FX world in 2023 and this reign can continue says HSBC, in a new strategic currency briefing.

Europe's biggest bank says the Pound will likely remain supported by encouraging economic activity data, higher interest rates from the Bank of England and a market which is not stretched in terms of positioning.

This "should offer further upside," says Daragh Maher, Head of Research for the Americas at HSBC.

HSBC also expects the Dollar to remain under pressure in "the weeks ahead" which suggests the trends that have been in play over the course of 2023 are likely to persist.

These include the uptrend in the Pound to Dollar exchange rate whcih peaked at 1.25 earlier this month.

The Pound to Euro exchange rate has however retreated over recent days and is now flat on the year.

The deadlocked GBP/EUR reflects the ongoing outperformance of the Euro which benefits from firm activity data and an activist central bank that has indicated it will likely hike further than the Bank of England and U.S. Federal Reserve over the coming months.

"Our optimism on EUR and GBP is revealing as they come to mind quicker as likely to gain than the more traditional cyclical 'risk on' currencies such as NOK & SEK and AUD & NZD," says Maher.

The key near-term event for foreign currencies is the May 03 U.S. Federal Reserve decision that should see another 25 basis point rate hike, although the Fed is expected to signal this could be the last in the cycle.

"We look for a mostly neutral outcome with a 25bp hike and the door left open to another rate hike, but without committing to one. This should be supportive of risk appetite rather than the USD," says Maher. "This may prompt further upside in both the EUR and GBP."

The Pound is expected to remain supported by supportive investor flows with CFTC data showing speculative flows have become progressively more supportive of the UK currency since mid-March after spending the earlier part of the year as a marked headwind to the currency.

"This has helped turn the tide for GBP," says Maher. "GBP has been the "king" of G10 FX so far this year, outperforming all others. We expect this up-trend to persist in the coming weeks."

But for the Pound to outperform, UK data must remain firm and force the market to abandon its pessimism.

"The picture is encouraging. Consumer confidence has bounced back, and the PMIs are looking better with the forward-looking sub-components especially promising. On the structural front, the market is no longer fretting about the UK’s fiscal balance, and the core external balance is no longer deteriorating. UK recession fears are now firmly on the back burner," says Maher.

HSBC's economists recently revised their expectations for the Bank of England to factor in two further 25bp hikes rather than their previous forecast that the policy rate had already peaked.

This is because although UK inflation is slowing, it is not doing so as quickly as expected, "which means the cost of living squeeze could remain a headwind to the economy and GBP," warns Maher.

Some caution is therefore warranted as HSBC says the pace of appreciation by the Euro and Pound is likely to be slow. "Big gains from here are unlikely," says Maher.

"So our issue is less about the likely direction of GBP, but about the pace," he adds. "We think the market will push GBP higher".

The Pound to Dollar exchange rate is forecast by HSBC to reach 1.30 in 2023.