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Brace for Pound Turbulence as U.K. Economics, Politics Collide

The pound may be in for a bout of volatility, according to analysts at ING Groep NV, after a week that saw the currency confined to its tightest range versus the dollar in almost three years.

Sterling slipped to its lowest level in six weeks against the dollar on Aug. 10 as data signaled sluggish U.K. growth, prompting money markets to push back bets on the timing of a Bank of England interest-rate hike. Morgan Stanley revised its forecasts to predict parity in euro-sterling, which would be a record. 

Economic indicators this week, including inflation, labor and retail sales, are unlikely to alter the gloomy outlook, while politics could cause swings in the U.K. currency, according to Viraj Patel, a foreign-exchange strategist at ING in London. 

“The combination of key U.K. data releases, as well as Brexit and geopolitical headlines, may present some near-term turbulence for GBP markets,” he wrote in a client note. “We expect the next round of key U.K. data releases to be the final nail in the coffin for a 2017 BOE rate hike. While higher inflation figures may keep lingering hopes alive, the slowing trend in consumer activity, as well as uncertainty over the degree of slack in the labor market, should keep the hawks at bay.”

The pound was at $1.2987 as of 5 p.m. in London on Friday. Its weekly range of little more than one cent was the tightest since August 2014. While implied one-week volatility climbed to 8 percent this week, that compares with as much as 18 percent seen as recently as June.

Rate Outlook

The implied probability of a 25-basis-point rate increase by year-end was 23 percent, according to MPC-dated SONIA, sliding from 50 percent before the BOE’s policy announcement on Aug. 3, when it kept its key rate at a record low and cut the economy’s growth outlook.

As skepticism grows within Prime Minister Theresa May’s own cabinet that a comprehensive trade deal can be struck before the scheduled departure date of March 2019, markets will closely watch for headlines on whether a transitional agreement could be brokered. The U.K. government is set to release a series of position papers in coming weeks, according to Sky. These could lend clarity on how much May is willing to compromise.

“On the Brexit front, we continue to believe it is too early for GBP markets to price in any Brexit transitional deal hopes; there are a number of “divorce” stumbling blocks that need to be overcome before any transitional arrangement is signed, sealed and delivered,” ING’s Patel wrote, adding that sterling “is far from out of the woods when it comes to political event risks.”

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