BoE is likely to strike a hawkish tone – Deutsche Bank

The BoE is likely to strike a hawkish tone while hiking today but may struggle to reprice expectations much more for next year given uncertainty about Brexit, suggests Oliver Harvey, Macro Strategist at Deutsche Bank.

Key Quotes

“Nevertheless, we remain tactically bullish GBP based on rate differentials, lighter positioning and progress on Brexit negotiations into year-end.”

“First on the Bank of England, the market is almost fully priced for a hike tomorrow and has close to an 80% probability of another by May next year. After that, the curve is very flat, with only slightly more than one more hike priced to 2020. While we expect a hawkish tone from Carney and the forward guidance on the yield curve to be retained, it may be difficult for the MPC to engineer more steepening without clarity on a Brexit transitional deal. The good news for pound bulls, however, is that there is still plenty of room for sterling to catch up to rate differentials, which point to EUR/GBP in the low 80s.”

“Second on the politics, marginal information continues to point towards convergence at the December EU Council. Brexit Secretary Davis confirmed in House of Lords testimony yesterday that negotiations would restart next week after a delay, and that the financial settlement 'is likely to favour the EU.' The stumbling blocks have shifted away from money alone towards bundling money and transition as well as agreement on the outline of a future free trade relationship. These may prove troublesome, but the UK is in a better position than before May's Florence speech, GBP TWI is unchanged since then and yet to price any progress since.”

“Finally, positioning seems less of an obstacle to being long sterling. The BoE's hawkish tilt in the summer saw a significant build up of pound buying, particularly among leveraged funds, but this has now retreated, according to both the IMM and our COFFEE report that monitors option activity, and the market has returned to being short GBP.”