Fundamental Forecast for British Pound: Neutral

With little of note on the UK economic calendar, the British Pound is set to take its cues from trends in underlying sentiment across financial markets in the week ahead. Indeed, Sterling remains significantly correlated with the S&P 500 – a proxy for investors’ risk appetite – albeit to a lesser extent than more traditional sentiment-geared currencies like the Australian or Canadian Dollars. First and foremost, this puts the spotlight on the central bankers’ symposium in Jackson Hole, Wyoming where Fed Chairman Ben Bernanke is set to speak on Friday, with a handful of key economic data releases important to keep an eye on as the week progresses.

Last year, Chairman Bernanke’s speech at Jackson Hole marked a critical turning point as he first floated the idea of a second round of quantitative easing (the so-called “QE2”), stoking aggressive gains across the spectrum of risky assets as the promise of cheap credit pushed investors to finance bets on higher-yielding assets in US Dollars. With the US economy and that of the world at large on the defensive and looking ahead toward a material slowdown through the end of the year, markets will be holding out hope for the Fed to come riding to the rescue once again.

Competing arguments for the likelihood of further stimulus abound. On one hand, the Fed’s unprecedented pledge defining the “extended period” through which rates will remain low as at least mid-2013 at the last policy meeting was already a bold action that sparked acute dissention in the ranks of the policy-setting FOMC committee, meaning an escalation in the dovish push is unlikely for now. On the other, a major reason to embark on QE2 was the perceived threat of deflation, which can be cited again considering medium-term price growth expectations priced into bond yields are down substantially from a year ago.

All told, traders shall have to wait and see where Chairman Bernanke stands on the issue, but news-flow interpreted as swaying his opinion one way or the other is likely to keep markets on their toes in the interim. With that in mind, investors will keep a close eye on the Richmond Fed manufacturing survey for confirmation of the dour results seen last week in Empire and Philly Fed readings as well as the upcoming Durable Goods Orders print. Preliminary Euro Zone PMI figures, German ZEW and IFO sentiment surveys, and the HSBC estimate of Chinese Manufacturing PMI gauge will also be important as evidence on the evolution of the global recovery from its leading engines continues to be combed through.

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