Credit Agricole evaluates the British Pound (GBP), focusing on two significant risks that could impact its performance in the near future.
Contrast Between GBP Strength and UK Economic Data:
- There is a notable discrepancy between the recent surge in GBP value and the concerning quality of UK economic data. This is evident from the negative readings in the UK economic surprise indicator, which suggests that the actual economic data is underperforming compared to expectations.
GBP's Valuation Above Rate Differential:
- The GBP's Nominal Effective Exchange Rate (NEER) is currently trading at levels higher than what is justified by the interest rate differential. This differential is calculated between the 2-year UK interest rate and the average 2-year rate of the Group of Nine (G9) countries. This disparity indicates that GBP's current strength may not be fully supported by the UK's interest rate appeal relative to other major economies.
For the GBP to sustain its recent upward trajectory, two factors need alignment:
- The emergence of positive economic surprises from the UK that could boost market sentiment and confidence in the UK economy.
- An increase in the attractiveness of GBP from an interest rate perspective, which would require a rebound in the UK’s rate appeal compared to other major economies.
In the absence of these developments, GBP's current gains might be vulnerable to reversal, highlighting the need for close monitoring of both economic data and interest rate differentials.