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Bank of America has reduced its pound sterling forecasts, even as it insists the broader story for the UK economy is not as bad as markets have been making out.
The bank argues that markets have been running with a “glass half empty” view of the UK, ignoring a solid first half of growth and now having to revise up their second-half expectations.
Stronger growth compared to peers, higher interest rates, and signs of a global cyclical recovery should, in theory, be ticks in the "long GBP" column.
Yet despite this, sterling has underperformed.
Bank of America admits that while they’ve been constructive on the pound’s outlook, UK public finances remain the Achilles heel.
This has been their warning for years, but the difficulty has always been timing. Since the turmoil of September 2022, the pound has been hit with a series of mini-shocks, each adding to a risk premium that now weighs heavily on sentiment.
As a result, markets are placing unusual emphasis on the upcoming Budget.
The research suggests that once the Budget passes - provided there are no negative surprises — the pound could regain some ground as event risk fades.
They even point to the way the dollar often trades around FOMC decisions as a parallel for how sterling could behave after fiscal events.
For now though, the "usual rules" in FX don’t apply. For example the pound has stopped reacting to UK data in any consistent way. One worrying sign is that sterling has developed a negative correlation with gilt yields.
Normally, rising yields would support a currency, but recently we’ve seen gilts and the pound sold off together, which suggests that investor confidence is being undermined by fiscal concerns rather than bolstered by rate differentials.
That loss of trust has led Bank of America to trim back its projections. It now forecasts EUR/GBP at 0.86 by the end of 2025, compared to 0.83 previously (pound-to-euro at 1.1630 from 1.2050) and GBP/USD at 1.40 instead of 1.45.
The takeaway is that while Bank of America still sees reasons to be positive on the pound, it recognises that fiscal credibility is trumping economic momentum in driving sentiment. Until the Budget risk passes and confidence stabilises, sterling is likely to remain capped.