Sterling’s Recovery Fails as PM Expresses regret for “Missteps” in the GBP Price Estimate

Oct 18, 2022
VOT Research Desk

Market Analytics and Considerations

As the new finance minister changes previous mini budget items, Prime Minister Truss expresses regret for “misjudgments”

Though far from its previous low, cable’s potential for growth is constrained by political instability. On the daily chart, resistance is becoming visible.

UK government bond yields on longer terms decline but remain high and are volatile.

Yesterday, the Bank of England (BoE) had to step in to prevent systemic risk from large pension funds as bond yields increased after revelations of the mini budget statement caused an upheaval in financial markets. The new Prime Minister of the UK, Liz Truss, issued an apology for the situation.

Almost all of the initial proposals made on September 23 by the ousted finance minister Kwasi Kwarteng were thrown out by the new finance minister, Jeremy Hunt. Particularly, Truss suffered a political setback when the substantial energy price cap scheme, her primary campaign objective, was pushed back to the end of April 2023 instead of October 2024.

Five MPs have already made a public plea for her removal, which may be challenging given that there cannot be a vote of no confidence during her first year in office. However, everyone involved can support a rule change to remove her sooner if a significant majority demands her resignation.

The response from the market has been roughly in line with expectations. Sterling advanced toward the 1.1410 level of resistance as a result of the fiscal reassurance that Jeremy Hunt provided. A series of lower moves from the level after producing upper wicks on the daily chart suggest that buyers have lost momentum at this level.

However, cable’s longer-term outlook remains bearish due to the Fed’s continued hikes without the BoE’s constraints imposed by the recent pension/bond market problem. Additionally, the US dollar is the preferred currency to hold in the event of a liquidity strain, which is only likely to see it supported in the near to medium term, in times of financial distress, dislocations, or systemic threats.

The cable’s recovery on the 4-hour chart, but downside momentum is limited at the 1.1410/1.1461 area. The average true range indicator in the daily chart above indicates that markets remain highly reactionary and volatility remains elevated, so it is unlikely that GBP/USD will reveal a directional preference until there is more clarity on the political front.

Cable has recovered from its lows, but the bond market is recovering at a different rate. Shorter-term yields have dropped dramatically, but 20- and 30-year yields are still higher than they were before the mini-budget. Due to the bond market’s instability and volatility, the Bank of England decided not to continue bond sales next week. In contrast to the situation in the United States, the rise in yields has not led to a strengthening of the British pound because it only serves to exacerbate the country’s economic problems and the squeeze on living costs.

The BoE must raise rates once more on November 3rd, according to UK inflation data expected tomorrow. Markets have priced in a tightening of 94 basis points, which could set the stage for a bearish re-pricing if the Bank decides on a 75 basis point hike, given the recent instability.

Exponential (Daily) Moving Averages