It was the summer of 2014 and the International Monetary Fund had just warned that the pound was overvalued. Leaders of UK companies seized the opportunity to chime in; at that time, corporate results were littered with the negative impact of foreign exchange on operating profits.
Three years later, in a classic case of “be careful what you wish for” and against the backdrop of an almost unrecognisable political environment, the pound has given up nearly a quarter of its value against the dollar.
Beyond that, the comparison with the euro is now captivating markets. As investors, business and officials face the uncertainty of the UK’s final divorce terms with its largest trading partner, the single currency has momentum on its side: sterling has lost more than 6 per cent against its continental counterpart so far this year.
And where previous summers have been characterised by lighter trading activity into August, the ongoing scale of sterling’s move against the euro is notable. Over July, it fell 2 per cent against the single currency, and this month it has tumbled further still. On Friday afternoon, the euro rose above 91 pence, a level briefly seen last October and in the aftermath of the financial crisis.
“It makes you sit up and take notice, the fact that it is clearly weakening,” says Simon Derrick, a currency strategist at BNY Mellon, adding: “In recent years . . . when you might have expected sterling to be more volatile, it’s actually been quite quiet.”
The latest bout of pound weakness has been nurtured by the Bank of England’s meeting in August. The BoE pushed back market expectations of the first tightening since the overnight base rate was cut to a record low of 0.25 per cent last summer in the aftermath of the vote for Brexit.
The UK’s monetary policy conundrum revolves in part around Brexit. The BoE is forecasting a “smooth” exit but the process stands to potentially reduce the likelihood of rate rises further by generating further uncertainties.
Lower interest rates for longer in the UK is one contributing factor to sterling’s expected weakness but it comes alongside concerns over economic data.
“We still have a reasonably pessimistic view for sterling in the second half of the year,” says Elsa Lignos, global head of forex strategy at RBC Capital Markets. “We’re already beginning to see a bit of a turn in the data.”
“In practice, we do get the exchange rate passed through so we are seeing the impact on inflation but we’re not seeing the real benefit to export volumes,” she adds. “The second half of the year will clearly be a lot more challenging.”
Across the English Channel, there has also been a turn in the data: only European figures have improved, rather than deteriorated. At the end of July, core inflation in Germany hit 1.7 per cent, its highest level since 2008. At the end of June, quarterly GDP growth in the eurozone also hit its highest year-on-year rate since 2011.
The political momentum in Europe since Emmanuel Macron’s victory in the French presidential election has also shifted away from the threat of fragmentation that dominated investor discussion earlier this year.
“If you look at the point where it really takes off, it’s from April 23, and it’s the first round of the French election,” says Ms Lignos “The first wave is the unpricing of political risk — that’s compounded by better European economic data and a sense that the ECB is very slowly moving for the exit.”
Analysts at Morgan Stanley last week argued that the euro-sterling cross could move “beyond parity”. They posit that the euro has turned into an “asset currency”, with increasing unhedged flows into equities in the eurozone and it rallying when asset prices are rising globally.
“The current environment is fundamentally different to September 2015 when the ECB verbally intervened,” they wrote.
“Then, global growth was slowing, commodity prices were declining and China’s capital outflows were in danger of pushing its economy into unwanted deleveraging. Nowadays, the global economy shows a very different picture, suggesting that the ECB may have higher tolerance for euro strength.”
Some argue there are much longer term pressures than Brexit and ECB policy in play. Sterling, once the world’s reserve currency, has diminished in significance on the global scene for decades — its bond markets now pale in significance compared with those on the continent.
“If you look at the history of sterling against the euro since the formation of the euro, you really are in territory where you haven’t seen that many closes above where we’re currently trading,” says Mr Derrick. “It’s part of a process that some might argue has been going on since my parents were born.”