Pound Jumps as Traders Turn Cautious on Expectations of BOE Jolt

  • Derivatives trading shows 98% chance of rate cut on Aug. 4
  • ‘High expectations’ make ‘higher hurdle’ for BOE: BTMU

Would a BOE Rate Cut Prevent a Recession?

The pound advanced before the Bank of England on Thursday delivers its second post-Brexit interest-rate decision, as some investors see a risk of policy makers underwhelming a market that’s pricing in the near certainty of a rate reduction.

Sterling rose the most in two weeks even after a report Tuesday showed U.K. construction contracted the most in July since the financial crisis. With swaps prices indicating a 98 percent chance of a cut Aug. 4 and speculative investors being the most bearish on the pound in records going back to 1992, sterling is seen as subject to policy disappointments.

“There are such high expectations, and that does provide a higher hurdle for the Bank of England to weaken the pound,” said Lee Hardman, a currency strategist at Bank of Tokyo-Mitsubishi UFJ Ltd. in London. “The market is heavily positioned short on the pound. That will dampen the potential fall -- at least in the near term.”

A short position is a bet an asset’s price will drop.

The pound climbed 1.1 percent to $1.3329 as of 4:46 p.m. in London, up from a 31-year low of $1.2798 on July 6. It strengthened 0.6 percent to 84.24 pence per euro. The currency extended gains as Sky News reported that Banco Santander SA’s U.K. unit has bid for some of Royal Bank of Scotland Group Plc branches.

Santander has tabled a formal bid to acquire a network of more than 300 branches due to be rebranded by RBS under the William & Glyn name next year, Sky News reported, citing unidentified people familiar with the development. RBS declined to comment to Sky while Santander said it does not comment on market speculation.

“This may or may not involve a foreign-exchange transaction but it’s still positive for sterling because it’s seen as a vote of confidence,” said Neil Jones, head of hedge-fund sales at Mizuho Bank Ltd. in London. “It’s a vote in favor of the U.K. banking system. Not quite the picture the day of Brexit.”

Short Positions

Sterling has fallen more than 10 percent against the dollar since Britain voted on June 23 to leave the European Union, weakening for a third consecutive month in July. Short positions on the currency outnumbered bullish wagers by 80,572 contracts last week, according to U.S. Commodity Futures Trading Commission data. That’s the biggest bet that the pound will decline since Bloomberg started compiling the data in 1992.

The Monetary Policy Committee’s meeting is set to drive the debate over how to tackle weaker growth. With business and consumer sentiment faltering, the pound slumping and industries from airlines to manufacturers warning of a negative fallout, economists say they expect BOE Governor Mark Carney to unveil a suite of stimulus measures.

Most economists in a Bloomberg survey foresee the MPC cutting its growth forecasts through 2018, while raising its inflation and unemployment projections. Yet, for some currency strategists including Peter Rosenstreich at Swissquote Bank, the central bank will probably need more time to analyze the situation before moving rates.

“By cutting rates, the BOE might send a wrong signal that the market’s fears of significant downside risk are justified,” said Rosenstreich. “We understand that there will be negative consequences from Brexit, but it’s not nearly off the cliff as many had predicted. Or at least, it’s too early to predict that.”

Gilts Fall

Pacific Investment Management Co. is also cautious on forecasting BOE decisions.

“They do have a nasty habit of surprising us in previous periods, so we should go in there with a bit of caution,” Mike Amey, a London-based money manager at Pimco, said in an interview with Bloomberg Radio. “I don’t think they will necessarily want to disappoint. They don’t have that many bullets left.”

U.K. government bonds fell for a second day, driving 10-year yields to the highest level in a week, as the Debt Management Office auctioned 2.5 billion pounds of 0.5 percent securities due in 2022. The gilt was sold at an average yield of 0.54 percent.

The yield on 10-year gilts rose eight basis points, or 0.08 percentage point, to 0.81 percent, the highest since July 26. The 2 percent security due in September 2025 dropped 0.72, or 7.20 pounds per 1,000-pound face amount, to 110.435.

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