Pound Sterling slips despite risk-on mood in FX markets

• Pound Sterling (GBP) pressured by unresolved Brexit tensions
• COVID-19 vaccine optimism limiting losses in pound Sterling (GBP) exchange rates
• British pound to Australian dollar (GBP/AUD) exchange rate underperforming
• New Zealand dollar (NZD), Canadian dollar (CAD) and South African rand (ZAR) supported by risk appetite

While the overall tone in global stock markets remains strong, the British pound (GBP) has depreciated against the euro (EUR), US dollar (USD) and Japanese yen (JPY) on Thursday after US stock markets signalled a weakening in risk sentiment.

Although the British pound to US dollar (GBP/USD) exchange rate continues to trade above the USD 1.38 level, the currency pair has climbed down from 3-year highs of USD 1.3867 and is trading at USD 1.3828.

Meanwhile, the British pound to euro (GBP/EUR) exchange rate is trying to cling onto the EUR 1.14 level, and the British pound to Japanese yen (GBP/JPY) exchange rate is flat at JPY 144.847.

Nonetheless, pound Sterling (GBP) has retained its position as the best-performing G10 currency of 2021. Any further weakness is viewed as temporary amidst hopes that the UK’s rapid covid vaccine rollout will result in an earlier easing of lockdown measures.

The British pound (GBP) has grown increasingly vulnerable to stock market movement following the UK-EU Brexit trade deal agreement, rising when sentiment improves and the reversal when FX markets focus on domestic fundamentals.

Investors traded more cautiously earlier during the session, which dampened sentiment towards pound Sterling (GBP).

However, market analysts have said they don’t expect softer global equity markets to trigger prolonged weakness in GBP exchange rates as domestic drivers are supporting the currency.

Analysts forecast further upside in GBP/USD, GBP/EUR and GBP/JPY due to the UK’s world-leading vaccination programme and confirmation that the Bank of England (BoE) will not be introducing negative interest rates for the foreseeable future.

However, bullish momentum in pound Sterling (GBP) exchange rates could fade into the second half of 2021 as the UK currency will become vulnerable to the negative impact of Brexit.

BoE Governor Andrew Bailey already delivered a stark warning over the EU being poised to lock the UK out of its financial markets, which would have enormous implications for consumers on both sides of the Channel.

According to Mr Bailey, the EU could resolve this matter by granting Britain access through the bloc’s so-called equivalence regime, but Brussels is reportedly dragging its heels over restoring permission.

It comes amid reports that UK exports to the EU have fallen by almost 70% following the Brexit transition period.

Although the Cabinet Office has dismissed claims that Brexit is stifling exports, the news appears to be pouring cold water on pound Sterling (GBP) exchange rates, as the currency is also struggling against riskier assets.

GBP/AUD underperforms as unresolved Brexit tensions rise

The British pound to Australian dollar (GBP/AUD) exchange rate has tumbled following BoE Governor Andrew Bailey’s statement over the possibility of the UK being denied access to the EU’s financial market.

GBP/AUD fell to AUD 1.7849 in the wake of the news, and foreign exchange analysts at NatWest Markets forecast further downside in the currency pair during   2021.

In a briefing note to clients, NatWest FX analysts said Australia’s successful containment of the coronavirus, which has allowed the Australian economy to avoid the sharp economic contraction witnessed in Britain should drive AUD/GBP higher through the year.

Unlike the UK, which has the highest death toll in Europe and continues to report tens of thousands of daily COVID-19 cases; Australia hasn’t recorded any coronavirus-related fatalities since 2020 and has nearly erased the presence of COVID-19 in the country.

With the vaccine rollout now accelerating in the country, NatWest Markets Head of G10 FX Strategy, Paul Robson, says he “expects the Australian economy to recover faster than its Western peers which should support further AUD flows.”

Although the BoE said, UK gross domestic product (GDP) is projected to make a strong rebound in the second half of 2021, assuming that the COVID-19 vaccination programme leads to the early lifting of lockdown restrictions, new variants of the virus are threatening this outlook.

There are also growing concerns that the current vaccines will be ineffective against new COVID mutations. Given that virus cases in the UK remain high, Britain’s vaccination programme might not be an ongoing source of support for GBP exchange rates.

Pound Sterling (GBP) could receive a boost next week if UK Prime Minister Boris Johnson unveils his lockdown exit roadmap as this will support Britain’s economic recovery outlook. However, as overall UK fundamentals are fragile, GBP could experience further near-term weakness.

New Zealand dollar reclaims losses against pound Sterling

After rallying to a two-month best earlier during the week, the British pound to New Zealand dollar (GBP/NZD) exchange rate has come under pressure amid renewed uncertainty over post-Brexit trade and vaccine efficacy.

The British pound to New Zealand dollar (GBP/NZD) exchange rate is trading 0.2% lower at NZD 1.9124 and could remain depressed in the near-term with UK GDP data out on Friday expected to reveal that the UK is facing a double-dip recession.

If UK growth reports beat forecasts, GBP/NZD could rally, but given that New Zealand has practically stamped out the coronavirus, gains in the currency pair could be limited.

Investor sentiment will also support the high-beta New Zealand dollar (NZD) as well other riskier assets such as the Canadian dollar (CAD) and Swedish krona (SEK), which are also edging higher over pound Sterling (GBP) on Thursday.

Risk appetite supporting GBP/CAD, GBP/SEK and GBP/ZAR

While post-Brexit headwinds are pressuring pound Sterling (GBP), the upbeat mood in FX markets is boosting riskier assets such as the Canadian dollar (CAD), Swedish krona (SEK) and South African rand (ZAR) higher over the UK currency today.

At the time of writing, the British pound to Canadian dollar (GBP/CAD) exchange rate is trading 0.2% lower at CAD 1.7528 and could weaken further if oil prices continue to support CAD strength.

The Norwegian krone (NOK) is also benefiting from strong oil prices as oil trade has a significance on economic activity in Norway. The British pound to Norweigian krone (GBP/NOK) exchange rate is trading on a softer note in midday trade at 11.6948, also supported by stronger-than-expected Norway inflation rate figures.

Better-than-expected economic data out of South African has also renewed strength in the South African rand (ZAR) and kept the British pound to South African rand (GBP/ZAR) exchange rate on the backfoot.

SACCI Business Confidence Index jumped up from 94.3 to 94.5 month-on-month in January, buoying hopes of a robust economic rebound in the country.

However, slow global vaccine rollouts could trigger a fresh deterioration in risk sentiment, which would weigh on the South African rand (ZAR), Canadian dollar (CAD) and other risk-sensitive currencies.