Market Analysis

The Bank of England might surpass the Federal Reserve and the European Central Bank in the race to reduce interest rates if market expectations are accurate. However, the pound has more than just its yield appeal to fend off significant downward pressure.

During its March meeting, the BoE kept interest rates steady at 5.25% and maintained its outlook for inflation and growth. Nevertheless, two policymakers who previously supported a rate hike changed their stance, giving the central bank's decision a more dovish tilt than anticipated.

One key factor supporting the pound in recent months has been the anticipation that the BoE would be slower to cut rates compared to the Fed or the ECB, keeping UK lending rates higher.

A week after the BoE's meeting, the futures market sentiment shifted. Traders now speculate, albeit modestly, that the BoE could be the first of the three central banks to lower rates.

There's a 20% probability that the BoE could implement a quarter-point cut at its next meeting on May 9, while the chances of a cut from the ECB on April 11 hover around 5%, and approximately 13% for the Fed on May 1.

Despite this, investors haven't entirely abandoned the pound. Recent weekly data from the U.S. regulator indicates that speculators reduced their bullish sterling position to $4.23 billion from $5.623 billion, the largest decline since records began in 2012.

The British economy has navigated over two years of nearly continuous rate hikes and escalating energy prices, experiencing only a brief, mild recession.

Several macroeconomic indicators have shown improvement lately. Even inflation has decreased sufficiently to align the UK more closely with the rest of the G10 countries, whereas a year ago, Britain was a noticeable outlier with above-average price pressures.

Deutsche Bank noted in a recent analysis that Sterling's external vulnerabilities are now lower, partly due to the decline in energy prices, alongside the narrowing current account deficit, which is another positive factor for the pound.

Sterling may also benefit from historical patterns, with April historically being its strongest performing month. According to strategists at Bank of America, based on historical trends, the pound could reach $1.30 next month, up from its current level around $1.266.

On average over the past 50 years, the pound has appreciated by 0.7% against the dollar in April, making it significantly stronger compared to August, its weakest month, during which it typically depreciates by an average of 0.7%.

Kathleen Brooks, research director at XTB, highlighted the role of seasonality, particularly due to the tax year-end and increased investment in ISAs, which could support the pound's performance, alongside any potential erosion of yield differentials.

Paraphrasing text from "Investing" all rights reserved by the original author.