The British pound recorded a significant decline on Thursday, which Capital Daily analysts attribute to a combination of factors, including a dovish outlook for the Bank of England’s (BoE) monetary policy, a high valuation of the currency and extended speculative positions.
The pound’s fall of more than 1% against both the US dollar and the euro marks one of the biggest daily falls against the dollar since the Trussonomics event two years ago, and is the biggest against the euro.
The currency’s weakness is a reaction to recent dovish comments from BoE Governor Andrew Bailey, who suggested that the central bank may cut interest rates “a little more aggressively.” This prompted investors to adjust their expectations regarding UK monetary policy.
Despite this, the reaction of currency markets was somewhat unexpected as the adjustments in exchange rate expectations were not that significant, with only a slight decline in UK 1- and 2-year one-year indexed swap (OIS) rates compared to rates in the US and Zone euro.
Capital Daily analysts note that the pound’s valuation is relatively high, and sterling is the best-performing G10 currency this year. Its real effective exchange rate recently exceeded the level just before the 2016 Brexit referendum, indicating a mighty valuation that may have contributed to the currency’s sensitivity.
The sudden depreciation of the pound also appears to reflect the expiration of speculative bets that have been overextended. This weakening has made the currency more susceptible to changes in market sentiment.
Looking ahead, Capital Daily forecasts a further decline in the value of the pound, particularly against the euro. Analysts expect the BoE to make deeper interest rate cuts than currently expected, and given the high valuation of the pound and continuing speculative pressure, they predict a depreciation of the current rate of 0.84/€ to 0.88/€ by the end of next year.
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