The risk of a UK interest-rate cut as early as next week seems no impediment to a stronger pound.
Sterling is predicted to steadily climb for most of 2020, ending the year around 3% stronger than current levels against the dollar.
That argument is based on a relatively smooth UK exit from the EU, drawing capital inflows into sterling assets, and resonates with the pound’s turnaround from its decline after Bank of England policymakers pointed to potential rate cuts.
Most currency analysts think that if the central bank were to lower borrowing costs, not only would it be a one-off move, but it could help the UK economy and in turn end up supporting the pound.
The currency sagged this month after a spate of comments by policymakers calling for stimulus, ending market euphoria over the Conservative’s resounding election win in December.
Toronto-Dominion predicts sterling at $1.40 (€1.26) by the end of 2020.
“If the BoE are to cut interest rates by the end of this month, it’s seen more as a risk management move to try and solidify expectations for a rebound in growth going forward,” said Lee Hardman, a currency strategist at MUFG Bank.
The pound was trading around $1.31, having recovered from a drop below $1.30 earlier this month after Bank of England governor Mark Carney said there is room to expand quantitative easing. Money markets now see about a 58% chance of a January rate move, with the focus turning to UK manufacturing and services data for clues on what policymakers will announce next Thursday.
While a January cut would be earlier than Mr Hardman’s prediction of a move in May and could mean some near-term pressure on sterling, he does not see the currency significantly weakening, given subsiding Brexit risks. His end-year call is $1.34, close to the Bloomberg survey median of $1.35.
“Even if you say it is potentially a temporary respite, I don’t see Brexit risks flaring back up again any time soon,” he said. “That is a key component as well on why the pound is stabilising at higher levels.”
Option markets also point to relative calm for sterling’s outlook. Gauges of sentiment and positioning for the next month are in favour of pound gains and the most positive since October. Bets on swings over one year, covering the end of the Brexit transition period on December 31, have cratered to levels last seen in 2014.