Pound Sterling's Rally Against Euro To Weather Bank of England Pivot: Analysts

• Bank of England to pivot as rate cuts come into view
• This can trigger a reversal in GBP outperformance
• But, Barclays, Goldman Sachs say weakness to be temporary

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The British Pound could weaken if the Bank of England 'pivots' its policy stance and hints the time to cut interest rates is coming; however, declines are tipped to be shallow according to Goldman Sachs and Barclays.

Financial markets expect the Bank to shift its stance on Thursday and drop its threat to raise interest rates again if needed, in a development that could compromise the Pound's recent ascent against its G10 peers.

"We expect the MPC to vote 7-2 to hold rates at 5.25% in February and signal a pivot by dropping tightening guidance," says Jack Meaning, an economist at Barclays.

"With a forecast conditioned on 100bp of cuts in 2024, it seems untenable to deny cuts are in the conversation," he adds.

The Pound would be at risk of decline if the market aggressively raises rate cut bets as a result of such a pivot, with one only needing to look at the fall in the Euro following last week's European Central Bank's communication.

Kenneth Broux, a strategist at Société Générale, says the Pound would likely fall against the Euro if the MPC loses its three 'hawks' who voted for a rate hike in December.

"If the three MPC hawks cede ground and realign with the majority for no change, this could put the brakes on sterling and trigger a EUR/GBP rebound after the lowest weekly close on Friday since August 2022," says Broux.

Société Générale's economists expect a unanimous 9-0 decision. "Forecast revisions may also alter expectations for the timing and size of rate cuts," says Broux.

But currency strategists at Barclays say "hints of climbing down Table Mountain are unlikely to derail sterling."

Barclays expects the Bank's Monetary Policy Committee (MPC) to start removing its hawkish bias at this week's meeting, with a shift in the voting pattern to 7-2.

"Although this could weigh temporarily as a May cut comes into focus, we remain constructive on sterling's outlook. This is because activity data continues to hold up, as evidenced in the sizable upside surprise in both services and manufacturing PMIs in January," says Barclays.

"We expect such demand-side outperformance to continue supporting the GBP, particularly vs the EUR and CHF," add strategists in a weekly currency strategy update.

The British Pound was January's best-performing major currency, held aloft by broadly constructive global risk sentiment and a retreat in expectations for the scale of Bank of England interest rate reductions due in the coming months.

"Shifts in interest rate expectations have been driving sterling higher of late and last week it gained a further 0.39% relative to the single currency. That marks it fifth straight weekly advance," says Bill McNamara, analyst at The Technical Trader.

He says if last July's peak at 1.1743 is exceeded – "which looks quite possible at this point – it will return to levels last seen in August 2022, and the next target will be in the vicinity of 1.185."

Image courtesy of The Technical Trader.

Analysts at Goldman Sachs say Euro-Pound has trended lower over the past month and is now close to their 3-month forecast of 0.84 (Pound-Euro at 1.19).

The Wall Street investment bank maintains a constructive stance on the Pound and says the Bank of England won't be the primary driver of the currency over the medium term.

"Sterling has benefited considerably from the global disinflation trend and shift toward policy easing," says Goldman Sachs, "GBP tends to do especially well in an environment of moderating rate volatility and rising equity prices."

As such, the global picture could be the ultimate determinant of how far the currency proceeds.

"Inflation pricing has fallen quickly in the UK, while real rates have remained relatively steady. Similarly, we think cyclical factors rather than the BoE are likely to be the dominant force for Sterling going forward," says Goldman Sachs.