Banks are betting on further rise of the pound

Wall Street banks predict a continuation of the British pound's surge, which recently reached its strongest level since the Brexit referendum in 2016. Supported by a robust economy and hopes for political stability, the currency is showing its best form. The British pound is 2023's most successful currency among developed markets. Rising by 1.7 percent against the strong US dollar to $1.29 and nearly 3 percent against the euro, it has achieved significant gains. These gains are driven by better-than-expected economic growth and persistent inflation, likely deterring the Bank of England from aggressively cutting interest rates. The overwhelming election victory of the Labour Party has also made investors optimistic that a phase of volatile politics, which has often weighed on the pound, is coming to an end. In contrast, recent gains by the extreme left and right in France's parliament have unsettled investors. Similarly, the upcoming US presidential election has shaken the markets. "The United Kingdom is the most politically stable country in the G7 for the first time in a long time," said Mark Dowding, Chief Investment Officer at RBC BlueBay Asset Management. "The Labour front bench is doing its best to calm the markets and present itself as responsible stewards of the economy, which has overall helped Sterling markets." Analysts from JPMorgan forecast that the pound will reach $1.35 by March next year, while Goldman Sachs expects it to rise to this level in the long term. Citi strategists are also optimistic, predicting that the British currency will rise to 0.82 pounds per euro for the first time since the EU exit. The pound is currently trading at 0.843 against the euro and at its highest level against a basket of trade partners since 2016. "The UK election outcome offers opportunities to address fiscal issues and improve trade relations with the EU, both of which are positive for the currency," Citi analysts explained. The growing confidence in the pound is reflected in an increase in bets from currency speculators, reaching their highest level since 2007, according to data from the US Commodity Futures Trading Commission. "It feels like we've turned the corner regarding UK sentiment both domestically and internationally," said William Vaughan, Bond Portfolio Manager at Brandywine Global. "In recent months, we have seen significant improvement in UK assets as well as inflows into the pound, equities, and gilts." Despite a rate hike to 5.25 percent, the UK has already overcome a mild recession, with the economy growing twice as fast as expected last month. Persistently high inflation in the services sector this week bolstered the conviction that the Bank of England will not cut rates at its next meeting on August 1. At the same time, markets have bet on a rate cut by the US Federal Reserve in September as the US labor market weakens. "This year, there is new momentum in the UK economy, helping to close the gap between the UK and the US," said Hugh Gimber, Global Market Strategist at JPMorgan Asset Management. "We are confident that you will see continued acceleration in the UK, albeit from a much weaker starting point." Some analysts point to a gradual return of confidence since a gilt market crisis in September 2022, which drove the pound to an all-time low. "It would be inaccurate to fully attribute the better tone of the pound to the Labour government," said Rabobank currency strategist Jane Foley. "In our view, the pound has been slowly recovering from market chaos triggered by the brief government of Liz Truss." Despite this year's gains, the pound remains 4 percent below its trade-weighted level on the eve of the Brexit vote. Further gains may be harder to achieve as the BoE is expected to cut rates later this year, along with the Fed and other central banks, according to ING currency analyst Chris Turner. "Perhaps we should be cautious in concluding that there is a comprehensive reevaluation of the pound," Turner said.