Is pound on its endemic way of long term bearish trend?

You need to take one step back, to move two-step forward… This is coincidentally happening with the UK economy and currency as well. In December, Jan 2021 the UK’s economy was taken aback due to rising COVID cases and lockdowns, whereas presently, the country is two steps forwards than its peers as vaccine rollout is working smoothly as per Boris Johnson’s plan. The same has led to a remarkable appreciation in Pound against USD and Euro both.

Do fundamentals support the recent rally in the Pound? And will it continue further?

Big Bang Post Brexit

The Brexit Deal was cracked in Christmas week, 2020 after 4 years of waiting. Initially, business and haulers struggled with a new custom declaration and health certificates on the border. But now it seems like a smooth transition of the deal. Further UK and EU officials described talk as “constructive” over Northern Ireland border. Issues over the supply of goods were high on the agenda. The market participants are expecting that billions of pounds of private sector investment could be unlocked in the North of England and create an economic “Big Bang” post Brexit. This could be very much supportive to the pound over the long run.

Vaccine rollout programme

UK officials said that they have reached a target of offering at least a first coronavirus vaccine shot to the most vulnerable people in England by mid-February, reaching some 15 million people in four priority groups. From this week, they are starting rolling out programme to those aged between 65 to 69 and those clinically vulnerable to COVID-19. The impressive pace of this program should allow UK PM Boris Johnson to release the country from lockdown sooner, supposedly from 8th March and get the economy quickly on track. This is again heightening the demand for Pound in the near term.

BoE policy and outlook

In its first meeting of 2021, the Bank’s Monetary Policy Committee on 11th Feb left monetary policy unchanged by holding the lending rate at 0.1 percent and the target stock of asset purchases kept at £895 billion ($1.2 trillion). The BoE officials said that they will need at least six months to prepare for a shift into negative interest rates. The delayed negative rates also delayed the downside for the pound. The negative rates will effectively pay businesses and individuals to borrow money and penalize banks for depositing cash. Theoretically, this will encourage citizens to spend more and this will help the economy to grow. But this could pressurize the bank’s margin and so financial sector. Overall, looking at BoE tone and forecast, Pound traders are cheering and going long on it.

Economic data outlook

On the economic data front, recently released growth data suggests the UK economy expanded by 1.2 percent in December versus a 2.3 percent fall in November as England was under lockdown. Further, an optimistic tone from BoE on growth despite lowering growth forecast in recent meet suggests faith in the UK economic recovery. The headline CPI is at 0.6 percent in December but likely to be back to 2 percent by end of 2021 and retail sales data likely to be better than the Nov and Dec figure on the reopening of the economy. But strong consumer recovery comes with caveats as UK saving ratio has spiked to 17 percent as of the third quarter. However, a breather is that the lower-income group which dominates savings; has reduced on rising compulsion spending. Manufacturing PMI should decline but remain in the expansionary territory while Service PMI should remain firmly below 50. Overall, the economic picture seems quite promising for the pound.

GBP CFTC and carry trade position

The recently released CFTC data (The Commodity Futures Trading Commission report provide a breakdown of each Tuesday’s open interest for futures and options on futures markets) suggests speculators are increasing their bullish positions on GBP from 10K to 21K as the UK’s vaccination advantage and fading prospects of negative rates are supporting the currency. A strong rebound in UK100 index in 2021 following other global markets and recovery in UK-US 10 year spread could attract some flows into the UK.

Technical Outlook:

The pound-dollar log scan monthly charts suggest multiple patterns in one chart. There are 3 observations on the chart. First, inverted head and shoulder with baseline at 1.35 has already given a breakout and since then there have been no looking back for Sterling. Secondly, the Pound is on the verge of a 14-year trendline breakout point at 1.3950 level. A strong move above this on monthly basis will shift Pounds’ primary trend to bullish. Thirdly, if the pound crosses 1.4450 double-bottoms baselines then it is seen dominating in G7 currencies. For this to happen, the pound-dollar needs to sustain well above 1.4000 levels.

Conclusion:

In nutshell, fundamental drivers such as milestone achievement in vaccine rollout, a major positive breakthrough in Brexit issues, delay in BoE negative interest rates by at least six months, and other supportive economic data could attract demand for the Pound in the short to medium term. And three technical observation suggests “Nothing but Upside” for the Pound.

Strategy:

Strategy for Exporters:

Exporters are suggested to wait for export hedging and they can target 103.50-104 levels with a stop loss of 100.20 on a weekly closing basis. Overall, breakout suggests stronger bullishness in the upcoming weeks.

Strategy for Importers:

Importers are suggested to cover pound-rupee on every pullback till 100.30-50 levels from where breakout was seen. If they don’t wish to cover through forwards then they are advised to hedge through plain vanilla call option.

-Amit Pabari is managing director of CR Forex Advisors. The views expressed are personal.