Fundamental Forecast for British Pound: Bearish

- Consumer Prices Unexpectedly Unchanged in July
- British Pound Takes a Hit After Bank of England Minutes
- UK Budget Deficit Soars by 8 Billion Pounds, Much More Than Expected

The British Pound is likely to look past much of the economic calendar to fall in with trends in risk sentiment as the primary driver of directional momentum once again in the week ahead. A trade weighted average of sterling’s value is now 88.1% correlated with the MSCI World Stock Index and 90.3% correlated with the Bloomberg/UBS CMCI Commodity Price Index, suggesting the currency trades largely in tandem with the broad direction of risky assets. Judging the near-term direction of risk sentiment has been a tricky endeavor in recent weeks: an increasing number of voices have started to qualify the rally that began in March as “overdone” given the fragile economic environment, but the bears are clearly still too few to form a dominant enough majority to meaningfully overtake momentum; the resulting tug of war has been superimposed on a backdrop of low summertime liquidity, producing a great deal of volatility with seemly little follow-through. The long-term picture seems to offer more clarity, however: global equities are trading at the highest levels relative to earnings since 2003, which seems more than a little overdone considering the kind of revenue potential that is to be expected in a year when the global economy is set to shrink for the first time in the postwar period; the demand for commodities also looks fragile, with the bulls’ stand-by story of steady Chinese growth challenged (at least for the time being) as the East Asian giant prepares to tighten credit access. On balance, this points to a bearish medium-term bias for risky assets and hints that a reversal of the recent rally will invariably bring the British Pound along for the ride.

Turning the economic calendar, a second revision of the second-quarter Gross Domestic Product figure headlines the docket of scheduled UK event risk. Expectations call for a validation of the originally reported 0.8% decline, bringing the annual growth rate to -5.6%, the worst in at least 53 years. Barring an unexpected, meaningful revision in the headline figure or any of the components, the outcome seems likely to be priced into the exchange rate already and is unlikely to cause much of a stir in currency markets. The releases of Augusts’ US Consumer Confidence, July’s Durable Goods Orders, and second quarter GDP figures will also be notable given their potency to drive overall market sentiment. Indeed, traders look to US economic data as a proxy for that of the world at large, expecting a rebound in the leading consumer market to yield positive spillover elsewhere. To that effect, these releases will likely prove market-moving across equity and commodity markets and thereby pull the sterling along as well.

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