Sterling could get short-term BOE relief before Brexit pain returns

London

THE pound could get respite from Brexit if the Bank of England sounds more hawkish this week, yet its longer-term prospects still look grim.

Sterling was one of the worst-performing major currencies in the past week after the race to become the next UK prime minister officially kicked off. The central bank's statement on Thursday could bolster the pound, before the risk of Britain crashing out of the European Union in late October comes back into focus, according to Nomura International Plc, MUFG and Union Bancaire Privee.

"Compared to Brexit, the Bank of England is a smaller force for the pound," said Nomura analyst Jordan Rochester. "You could have a one per cent move or so if they start to tip their hat towards a summer rate hike but positioning is short."

Sterling has remained hostage to politics with the BOE on hold as the drama in Westminster culminated with Prime Minister Theresa May's resignation as Conservative Party leader on June 7.

Policymaker Michael Saunders said in the past week that the bank does not have to wait until all political certainty around Brexit is resolved to hike rates.

This messaging suggests that current market pricing could be out of step. The market currently prices a possibility of a rate cut next year, but Governor Mark Carney has said the central bank stands ready to raise interest rates by more than investors predict if the UK successfully manages a smooth exit from the EU.

The currency, which traded near US$1.26 on Friday, could briefly rise to US$1.29 "before the next negative Brexit headline drives us back towards what matters for the pound," said Nomura's Mr Rochester.

Even if the central bank is more hawkish in its minutes, or when Mr Carney speaks in Portugal on Tuesday, MUFG is "sceptical that BOE policy can trigger a sustained rebound for the pound in the coming months amidst the still elevated level of both UK political uncertainty and Brexit uncertainty," said analyst Lee Hardman.

The Conservative leadership contest will continue this week with more rounds of voting aimed at whittling the candidates down to a final pair. These will then be put to a ballot of party members with a result expected in late July.

Brexiteer Boris Johnson is the front-runner and has already indicated that he would be open to taking the UK out of the EU even if a deal cannot be reached by Oct 31.

Union Bancaire Privee recommends selling the pound-dollar pair on rallies and buying the euro versus the pound on dips.

"Boris is largely priced in, but the EU's likely response to him is not," said Peter Kinsella, global head of currency strategy at UBP. "We are going to trade lower and the optics for the pound by the end of July are going to look horrific." BLOOMBERG