Bank of England Minutes Released: Pound Slides on Exchange Rate Markets

The British pound (GBP) has enjoyed some fresh gains taking it to 1.61 against the dollar - however it appears we are starting to see the rally reverse.

The big question is whether we can expect more USD weakness or whether the bull-run will come back into force.

Our latest report from RBS notes that stopping the dollar rally will be difficult even if UK interest rate expectations move in the right direction. Contrast this view to that of TD Securities who, as we report below, warn that the USD could trade softer into the year end. 

At the time of writing the outlook for the GBP has turned softer following the release of some bearish monetary policy meeting minutes from the Bank of England (BoE).

There was also the release of US inflation data for markets to bite into.

Dollar rate today: USD for your reference:

• The pound to dollar exchange rate: 0.30 pct lower on a day-to-day basis, 1 GBP = 1.6067 USD.
• The euro to dollar exchange rate: 0.52 pct lower, 1 EUR = 1.2652 USD.
• The US to Canadian dollar exchange rate: 0.02 pct higher. 1 USD = 1.1224 CAD.

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GBP/USD Slumps Again

The pound has fallen following the release of the minutes for the October policy decision meeting at the Bank of England.

The minutes showed the MPC voted 7-2 in favour of keeping rates unchanged again.

However, it was the wording in the minutes that have pushed the GBP lower. The Bank notes that there are signs UK economic growth is losing momentum and that a rate hike may leave UK vulnerable to shocks.

We are however surprised at how deep the fall is - markets have been expecting this kind of rhetoric and indeed the October falls in GBP are a clear reflection of this.

We therefore now see the risks for sterling turning to the upside now that this negativity has been absorbed, and importantly, communicated by the Bank of England.

The Almighty Dollar's Reign

The USD received a fresh boost mid-week on the much-watched US inflation data series.

"US inflation on the warm side of expectations helped the dollar curve out new one-week highs against the euro. The headline CPI held at 1.7 percent in September, versus forecasts to soften to 1.6 percent. Core prices held at 1.7 percent, as expected. Although inflation continues to run below the Fed’s 2 percent benchmark, by not slowing further it kept the door cracked to an earlier rate hike, buoying the buck," says Joe Manimbo at Western Union.

The US dollar index (the value of the USD against a basket of currencies) appreciation took off in July; from the middle of the month through to early October, the index posted 12 consecutive net weekly gains.

This is an unprecedented run going back to the late 1970s at least.

"Prior to this rally, the longest run up or down in the index was 11 weeks and there have been only a handful of instances where bull or bear trends extended for eight weeks or more since 1979," says Shaun Osborne at TD Securities in Toronto.

Reasons Why the Dollar Could Fall Into Year-End

Osborne has cautioned us previously that the USD could be due a slide when he alleged the USD could be as much as 3 pct over-valued.

We get another dose of USD news at the start of the new week.

Here is their reckoning:

Market positioning data suggest that speculative long USD exposure is reaching an extreme and seasonal trends turn more USD-negative in early November through the turn of the year.

Relative data trends (better than expected US data and worse than expected Eurozone data) helped trigger the USD lift-off earlier this year.

"It is notable that Eurozone-US data surprises have moderated and turned in the EUR’s favour since early September," says Osborne.

TD Securities regression studies of EURUSD and three-month EZ-US rate spreads suggests fair value for EURUSD is currently at 1.2980.

The USD typically softens modestly in the last two months of the year—add according to seasonal analysis.

"This has not been a “typical” year for the DXY but the index has, on average, declined 1% between November and the end of the year since the late 1990s," says Osborne.

Interestingly, since 1974, the USD has declined 63% of the time (average –1%, according to Bloomberg data).

"From current levels, a 1% fall would put the index on track to test the 38.2% retracement support of the July/September rally (84.07) in the next few weeks," according to Osborne.

Long-Term Gains Ahead

In order for the USD rally to extend further, fundamentals have to improve relative to Europe and Japan and spreads along the curve need to widen out again.

In the long-run TD Securities tell us they remain conviction USD bulls looking ahead into 2015:

"But that might be a tricky “ask” in the shorter-term. We think it is highly unlikely that QE is extended beyond the end of the month but the FOMC is still likely to indicate that policy will not be tightened for some time to come amid uncertainties about the health of the global economy."

Last week was a struggle for the pound, having fallen victim to poor CPI data early in the week the outlook was bleak and clouded with strained tension.

"Luckily a spring of disappointing data from the US and a slightly better figure for unemployment in the UK helped sterling to bite back and finish either equal or slightly higher than when it started the week against most of its major peers," notes Myles Baxter at CaxtonFX.