The British Pound Crisis Revisited, Will There be Deja Vu?

The Bank of England raised rates 50 bps last week as the bank battles with rampant inflation and the government and MPC appear to be willing to risk sending the British economy into recession to arrest spiraling prices. There is balancing act managing a confluence of inflation, economic stagnation, and financial fragility. With that and some of the Gilt action of late there have been concerns of another crisis in confidence that could hit the pound.

In September last year the pound against the dollar fell to its lowest level since the end of Bretton Woods, reaching $1.0350. The BOE’s at the time took drastic measures to address the threat to systemic stability that helped spur the initial short-covering rally in sterling that lifted to back over $1.2835 by June 2023.

The Bank of England per consensus unexpectedly raised its benchmark interest rate by a half percentage point with the worst bout of inflation since the 1980s and warned it may have to hike again. Rates at 5%, are at the highest level in 15 years. While higher rates make the pound more attractive in the forward margins what we saw after the BOE move was an up and down move where the pound fell as the risk of recession increased dramatically.

Some headlines that caught our attention this week that underscore this risk :

  • UK National Debt Breaches 100% of GDP for First Time Since 1961.”
  • “Stubborn UK Inflation Triggers Mortgage Crisis for Million.”
  • “London Home Asking Prices Slide as Rate Rises Stretch Buyers.”
  • “Persistent UK Inflation Should Worry Everyone.”

After peaking at 4.65% prior to the Bank of England’s September emergency intervention, two-year UK yields were back down to 3% by mid-November. The view then was the job was done, shared by both markets and BOE officials. They believed that crisis dynamics had capped on the UK rate hiking cycle. Tightened financial conditions and recession would surely crush inflation.

Then here we are, they could not have been more wrong. With its surprise 50 bps increase to 5.0%, the BOE policy rate has now more than doubled since October to the highest level since 2008.

The chancellor of the exchequer Jeremy Hunt himself admits that despite weak growth dynamics and heightened fragilities, there is today little confidence that inflationary pressures will dissipate. Without a rational fallback in prices through supply dynamics or similar it will be a long time to come back down to the BOE target.

Gilts Sold Reminds us of Risk.

Prior to the BOE we saw the following move in Gilts and elsewhere, in essence the bond markets led the central banks.

  • UK two-year yields spiked 40 bps that week to 4.93% (2-wk gain 58bps) – surpassing late-September crisis levels to the highest yield since the summer of 2008.
  • Two-year yields were up 20 bps in Sweden, 21 bps in Germany, 20 bps in France, and 16 bps in Italy.
  • Australian two-year yields jumped 20 bps this week to 4.20% – to the high since the summer of 2011.

The risk is they go to hard to fast and force a recession by obsessing something that has so many unknown consequences. UK two-year yields closed the week up another 23 bps to 5.16%, with a three-week 81 bps yield spike.

How the market is positioned in Forex

Foreign exchange is notorious for getting too much one way. We take a look at the pound and other majors and you can see much of that short dollar trade has been rebalanced,

COT on forex in week to June 20: Mixed flows saw the gross dollar short rise $3.3bn to $9bn. Record buying of GBP ahead of BOE lifted the net long 7-fold to 46.6k lots, a 5-year high. JPY short hit a 13-mth high, MXN long a 3-yr high while EUR selling extended to a fifth week
COT forex in week to June 20: The non-commercial position across key IMM forex futures in the wk to June 20. Note GBP, JPY and MXN @Ole_S_Hansen

Technically Analysis of the Pound

British Pound – GBPUSD

The British pound tested the top of the channel break after lower since its double top and identified sphere of influence at 4/8 and went through it. GBPUSD broke above the 61.8% of the range since 2021 high over 1.2800. What is clear is the move against the Euro as we see in the EURGBP cross. The question is this consolidating a corrective wave higher since it responded to its vicious move down in July to blast out of the sphere of influence to the cloud base and has since retraced to the median after hitting the 50% (as shown) and reversing.

Majorly support is the channel, at the Kijun and 100dma support at 1.2287. Below there is the March 24 low at 1.2190, the 1.2000 psychological level at the cloud top. Cable’s Chikou balanced at week’s end with that power move off the tenkan. Last year GBPUSD reversed after 1985 lows & spat fib extension 1.618 level 1.1432 with previous low & -1/8. Above channel Tenkan confluence & sliding Kijun. Cable’s Chikou balanced at week’s end with that power move off the tenkan and spinning back around that 61.8% and 4/8 confluence.

Euro Pound – EURGBP

EURGBP screams false breaks, this week EURGBP took out the lows from early June at 0.85667 and traded to 0.8543 below swing lows from December 2022 between 0.8546 and 0.8559. The price has worked it’s way down since After exploding higher to 8/8 at .93 it reversed to back test the 50wma and cloud break to the outer median line where it advanced significantly through the top of the channel back through 86. EURGBP has dribbled lower out of the resistance at the sphere of influence.

Major and Minor FX Rates June 23, 2023

For a Complete Macro and Micro Market Overview Visit TC Traders Market Weekly

Sources: TC WSJ Bloomberg

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From The TradersCommunity Research Desk