(BBG – click to see) Sterling’s slump to a seven-month low on Wednesday is just the tip of the iceberg, according to a growing number of analysts and investors uneasy about the U.K. currency’s prospects in 2016.
With a prediction the pound will weaken a further 15 percent by the end of next year, Deutsche Bank AG is among the biggest skeptics. The second-largest foreign-exchange trader sees sterling sliding to a level unseen since 1985, the year the Plaza Accord was signed, Britain’s miners’ strike came to an end and “Back to the Future” dominated movie theaters.
From speculation the Bank of England will refrain from raising interest rates to the risk the U.K. will leave the European Union, the reasons for a sustained drop are stacking up. Options traders are alert to the risk, with prices signaling they’re the most bearish on sterling since July.
“I’ve had more people ask me about sterling in the last four or five weeks than I’ve had in six months,” said Simon Derrick, chief currency strategist in London at Bank of New York Mellon Corp., who sees the pound falling to the high-$1.30 to low-$1.40 area by the end of next year. “People are starting to think about these things in 2016, and how it impacts sterling.”
More-bullish forecasters are still in the majority. The median estimate in a Bloomberg survey puts the pound at $1.52 by the end of next year, compared with Wednesday’s seven-month low of $1.4895. Deutsche Bank is far from alone, though, with Morgan Stanley predicting a slump of about 6 percent to $1.40 by the end of 2016.
Sterling was little changed at $1.4939 as of 9:50 a.m. London time on Thursday.
Options also suggest the pound will extend its 4 percent decline versus the greenback this year. The difference between the cost of three-month contracts allowing traders to sell the pound versus the dollar and those to buy widened to a five-month high of 0.88 percentage point, from as little as 0.26 percentage point in mid-October.
With inflation falling below zero and growth remaining lackluster, BOE Governor Mark Carney said at the central bank’s meeting last month that the economy isn’t strong enough for higher borrowing costs.
The anticipated timing of a rate increase, as seen in the futures market, has been pushed back until after January 2017. At the same time, the Federal Reserve is widely expected to raise its main rate target this month, providing a boost for the dollar at the expense of other currencies, including the pound.
The determination of Chancellor of the Exchequer George Osborne to push the U.K. budget into surplus by cutting spending may be another drag on growth. Investors are also starting to focus on the forthcoming referendum on Britain’s membership of the EU, which the government has pledged to hold by the end of 2017.
Deutsche Bank’s bearish view on the pound “is predicated on either no, or a very shallow, BOE hiking cycle versus the Fed as the economy slows down due to a negative fiscal impulse and the current-account deficit becoming much more a problem,” Oliver Harvey, a strategist at the lender in London, said by e-mail.
The possibility of a British exit from the EU is another “major risk” to its currency, he said, predicting declines to $1.27 by the end of next year and $1.15 in 2017.
Sterling has experienced a year of ups and downs against the dollar in 2015 as speculation the BOE would quickly follow the Fed in tightening policy left it vulnerable to pullbacks once officials struck a more dovish tone.
The pound has appreciated 10 percent versus the euro, headed for its biggest annual advance since the shared currency’s debut in 1999. But that just makes exports to Britain’s biggest trading partner less competitive, backing the case for keeping borrowing costs at a record low — just as so-called “Brexit” concern takes hold.
“While it’s our base case that the U.K. will vote to stay in the EU, the uncertainty leading up to the referendum will be negative because that will likely slow investment inflows into the U.K.,” said Ian Stannard, head of European foreign-exchange strategy at Morgan Stanley in London. “That leaves sterling exposed.”