The pound dropped and gilts climbed after another member of the Bank of England’s (BOE) monetary policy committee pointed to a potential vote for an interest-rate cut this month and data showed the UK economy unexpectedly shrank in November.
Sterling led losses among Group-of-10 currencies, on course for its fifth consecutive day of declines. Policy maker Gertjan Vlieghe said he will vote for lowering interest rates if there are no signs the economy has improved since December’s general election, with money markets now pricing a 50% chance of a cut this month, up from 25% on
Vlieghe’s comments follow those made by fellow BOE policy maker Silvana Tenreyro, who said she may support a rate cut if the economy doesn’t strengthen. The day before, the BOE’s outgoing governor, Mark Carney, said there was a debate at the monetary policy committee on the relative merits of near-term stimulus.
“The developments should keep the pound under downward pressure in the coming weeks,” Lee Hardman, a currency strategist at MUFG in London, said in a note. “The UK rate market has been underpricing the risk of a BOE rate cut and will need to continue to adjust.”
The pound fell as much as 0.8% to $1.2961, its lowest level since December 26. It also weakened by 0.8% to 85.76 pence per euro. The rise in UK government bonds was led by shorter tenors, with two-year yields down five basis points to 0.47%.
Rate-cut speculation was given more fuel after data released on Monday showed a 0.3% monthly decline in the UK’s gross domestic product in November, casting doubt over whether there was any growth at all in the fourth quarter. Economists had expected unchanged output for the month, which preceded a decisive victory for prime minister Boris Johnson in the country’s general election.
“The shift in the MPC rhetoric could suggest that the ‘Boris bounce’ in the wake of the general election we and the market were hoping for may not live up to expectations,” said Valentin Marinov, head of Group-of-10 currency strategy at Credit Agricole SA. The weaker than expected UK data “could encourage the markets to front load BOE rate-cut expectations” ahead of the January policy decision, though he expects a cut in May rather than January with data likely to improve.
Further tests for the UK economy will come with inflation figures due on Wednesday and retail sales on Friday. Vlieghe, in an interview with the Financial Times, said it wouldn’t take much to swing his decision one way or the other.
Kit Juckes, chief currency strategist at Societe Generale SA, said in a note that market had been caught out after switching to long sterling positions in recent months. Asset managers increased their net pound long contracts to the highest recorded since data began in 2006, according to Commodity Futures Trading Commission data for the week ended on January 7.
In the options market, sentiment on the pound is starting to worsen, though demand for calls still outweighs puts for the next two weeks.
Some of the biggest Wall Street banks have also been rethinking their outlook for gilts in recent weeks.