Pound to Euro Forecast for Week Ahead: Buy the Dip?

January 12, 2025 - Written by David Woodsmith

STORY LINK Pound to Euro Forecast for Week Ahead: Buy the Dip?

The Pound came under significant pressure during the week amid a surge in UK government bond yields and higher global yields.

The Pound to Euro exchange rate (GBP/EUR) dipped sharply to 2-month lows close to 1.1900 before a slight recovery.

The 10-year yield jumped to 16-year highs just above 4.90%, while the 30-year yield hit the highest level since 1998.

Deutsche Bank recommends selling the Pound against a basket of currencies, including the Euro. With the trade-weighted sterling index still sitting just over 2% off its post-Brexit highs, we think there's further to go in the recent pound weakness."

ING is more positive and expects strong buying interest on any GBP/EUR dips to the 1.1765 area.

According to MUFG; “Recent price action highlights though that higher yields are not always supportive for a currency if they also reflect heightened concerns over the outlook for the government’s fiscal position and persistently higher inflation in the UK. Higher yields and a weaker GBP may be required to make Gilts more attractive to foreign investors.”

Yields also moved higher throughout the Euro-Zone, but there was a notably greater impact on Pound sentiment.

Risk appetite was also more vulnerable and, according to Credit Agricole, “The GBP had the strongest positive correlation with our Risk Index in 2024.”

Deutsche Bank noted underlying UK fundamental vulnerability; " Britain's current account deficit is no longer improving, and the currency is vulnerable to the recent increase in volatility. The more a country relies on foreign financing for its domestic debt issuance, the more exposed it is to the global environment.”

It added, “From the perspective of external flows, the UK is one of the most vulnerable in the G10." So what's the solution?

The bank considers that a weaker currency is the answer.

According to ING, higher yields do not equate to a crisis; “Sticky inflation, government spending, higher US rates and supply pressures will keep upward pressure on GBP rates. Sterling has started to sell off, but further weakness should be limited – since this is not a sovereign crisis.”

Credit Agricole put the weakness in context; “The GBP could remain the preferred pressure valve for anxious investors who worry about the outlook of their UK portfolios. That being said, we doubt that a repeat of the 2022 gilt market selloff is likely – a view that is consistent with the so far modest widening of the UK sovereign CDS spreads.”

It added, “In addition, we believe that the UK economy could prove more resilient than feared at the moment given the historically low unemployment rate and the continuing albeit gradual BoE easing.”

As yields moved higher, fears over the UK fiscal outlook intensified with pressure for further tightening and a clarification of strategy.

Matthew Amis, investment director at asset manager abrdn, noted that markets abhor a vacuum; "We have the OBR in March, and it's the first week in January, so what happens to the gilt market in between now and March? It would have been better if we had more information there, just to calm markets down."

Goldman Sachs noted fears that the jump in gilt yields will hurt households who need to remortgage home loans and deter businesses from borrowing to invest.”

The bank forecasts GDP growth of just 0.9% this year compared with the Office for Budget Responsibility forecast of 2%.

There will also be further uncertainty over monetary policy implications

Rabobank's chief currency strategist, Foley, commented, "There is a huge amount of uncertainty about what the Bank of England could or should react to. And I think from that point of view, it's not that surprising that the options market is reflecting that uncertainty,"

She added, “while the cable is clearly vulnerable given USD strength and the GBPEUR cross has dropped substantially this week, weakness in the currency block is likely to work as a floor below GBPEUR.”

The equation of solid GBP/EUR support could change dramatically if the Euro-Zone outlook improves.

BNY Mellon sees some upside in Euro-Zone potential; “The need for renewal is abundantly clear for the EuroZone, and looking ahead to 2025, the risk is that some meaningful change could really happen.”

BNY also noted that underheld positions in the Euro are at the most extreme levels in two decades and added, “Finally, we believe one of the biggest obstacles to further EUR weakness is the simple fact that there might not be much left to sell in risk terms.”

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TAGS: Currency Predictions Pound Euro Forecasts